Swap Executives Tell Regulators Trading Flexibility Needed

Swap industry executives told U.S. regulators that mandatory trading systems in the $615 trillion market must be flexible to allow for several ways to buy and sell the contracts.

While exchange-traded futures contracts can change hands hundreds of thousands of times a day, a credit-default swap on General Electric Co. can trade as few as 15 times a day, said Andrew Downes, managing director at UBS Securities LLC.

“It’s important for the definition to encompass multiple models,” he told officials of the Commodity Futures Trading Commission and Securities and Exchange Commission today at a roundtable discussion in Washington on how regulators should create rules for so-call swap-execution facilities.

Congress sought to regulate over-the-counter derivatives, including swaps, after the trades complicated efforts to solve the financial crisis. Regulators and market participants couldn’t easily determine how interconnected banks had become through the contracts. Establishing clearinghouses and transparent trading systems such swap-execution facilities are main components of the new rules.

Types of systems that should be allowed in the new rules include the so-called request-for-quote process used now in the market by many traders, where an investor asks banks to compete to give the best price for a 10-year interest-rate swap, for example.

Typical Model

A typical model for the SEF would be the request-for-quote model, said Richard DuFour, executive vice president at the Chicago Board Options Exchange. The trading systems shouldn’t be required to provide constant prices because not enough swaps change hands every day, said William DeLeon, global head of portfolio risk management at Pacific Investment Management Co.

Allowing different models to qualify as SEFs “will drive a lot of innovation and liquidity in the market,” said Ben MacDonald, global head of trading at Bloomberg LP, the parent company of Bloomberg News. New York Mayor Michael Bloomberg is founder and majority owner of Bloomberg LP.

CFTC staff asked the participants if they thought the RFQ model satisfied the legislation’s definition of SEF that states that the trading systems must allow multiple parties to transact on each side of a trade.

An RFQ transaction done on Tradeweb LLC, a derivatives trading system, is only open to the investor who initiates it and the banks that offer prices, said Chief Executive Officer Lee Olesky. After the trade is done, the price is then made known to the market, he said.

Comparing Prices

A concern for allowing RFQ models to count as swap- execution facilities is that there’s no place to compare the different prices investors are given after they request them, said S. Viswanathan, a professor at the Fuqua School of Business at Duke University.

“How do you induce them to compete” if there is no place to aggregate the various prices, he asked.

Other participants in the roundtable include Julian Harding, executive director at interdealer broker Tradition Financial Services Inc., who is representing the Wholesale Markets Brokers Association Americas, a trade group; Heather Slavkin, senior legal policy adviser for the AFL-CIO; and Jeff Sprecher, CEO of Intercontinental Exchange, Inc., owner of the world’s largest credit-default swap clearinghouse.

To contact the reporter on this story: Matthew Leising in New York at mleising@bloomberg.net.