Trading systems | Swap execution facilities
“You can have sophisticated trading protocols and high- performance technology, but an SEF or OTF must have liquidity. No one will look at a system alone; it will all be about liquidity.” Jonathan Morton, IPC
At present electronic trading in swaps does not mean a push towards zero latency. “It will be good to have the ability to re-quote rapidly and offer safety, but at this stage low latency won’t be pursued as aggressively as in the equities markets,” says Dodd. Woodhams says reducing latency via methods such as co-location would be “a bit over the top at this stage”. He identifies two dimensions to bandwidth – where price updates can be made many times per second, and where updates have to ripple out across many other prices. “The OTC markets are highly correlated, so latency will be important here.” Tanuja Randery, chief executive of market data and trading infrastructure services company MarketPrizm, says the company expects the swaps market to follow other asset classes in becoming electronic, starting with connectivity and networks and eventually opening up opportunities for vendors to provide upstream services that market participants would not consider developing or operating in-house. “We can see a drive to have multi-asset trading systems enabling participants to consider their overall position at every point – clearly having the proper systems and technology to enable this becomes important as more assets are traded electronically. We have also seen firms sharing the know-how among asset classes and trying to capitalise quickly on new opportunities that arise.”
Best Execution | Autumn 2012
Financial consultancy and research firm Celent believes the future of SEFs and OTFs will be very choppy – a rollout of the platforms over two to three years, with wide block trading limits will require the industry to get comfortable with the idea of SEFs and OTFs “fairly quickly”. In its November 2011 report, Swap Execution Facilities and Organised Trading Facilities, a New Market Structure Emerges, the firm warns that regulatory momentum could fade and whatever market architecture is least disruptive but in the spirit of Dodd-Frank and the European Market Infrastructure Regulation could be adopted by the end of 2013. Celent identifies three key factors that have to be considered; price discovery, trade lifecycle and profitability. Unless these are balanced, the market structure could evolve into a scenario where “nobody wins, as liquidity goes elsewhere, dealer profitability and engagement dry up, and the high cost to trade spurs users to seek risk transfer in other financial products and markets”. Overall, while Celent believes that SEFs/OTFs will make the swaps market more electronic, transparent and competitive, it says not all transparency is equal. “We especially believe price discovery could be hindered unless careful consideration is made to ensure the rules are adaptable and reflect the reality that the swaps market has far less liquidity than some people imagine.” (See p.68 for GreySpark research on SEFs.) ■
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