ICE's Jeffrey Sprecher: The Sultan of Swaps

After buying a $10 million mansion in Atlanta last year, Jeffrey C. Sprecher rolled up his sleeves and repaired the furnace himself. He also rewired the sound system. Now the 55-year-old chief executive officer of Intercontinental-Exchange (ICE), known as ICE, is busy remodeling the $25 trillion market for credit default swaps (CDS), the derivative contracts that played a starring role in the financial breakdown.

Sprecher founded ICE a decade ago as an online marketplace for energy trading. Since getting into the business of CDS clearing—serving as a middleman in transactions involving the derivatives—ICE has become dominant. Between its operations in the U.S., called ICE Trust, and Europe, Sprecher's company has cleared more than $10 trillion in such swaps; its closest rival, CME Group (CME), has cleared $192 million.

Sprecher built such a huge lead by acting fast. Mere weeks after the federal government came to the rescue of AIG, which had been driven to its knees by its massive CDS exposure, he cut a deal with 10 of the world's largest banks, including Goldman Sachs (GS), Morgan Stanley (MS), and Bank of America (BAC), to clear their trades in exchange for sharing the profits with them. "I outmaneuvered the other service providers," Sprecher says in an interview at his Atlanta headquarters, wearing a black suit, open-collared dress shirt, and a $40,000 Patek Philippe watch that shows the time in 24 zones. Sprecher's firm and its partners stand to profit even more from President Barack Obama's July 21 signing of the financial regulatory reform act, which requires most standard derivatives to be cleared through a third party such as ICE.

The CDS was developed as a way for bondholders to offset the default risk of companies and countries. Over the past decade the market has experienced explosive growth as investors turned to the swaps to bet against financial instruments they often didn't own. It's the hope of Wall Street reformers that a CDS clearinghouse will bring order and clarity to the market, as well as a safety net. ICE guarantees every transaction between buyer and seller, effectively reducing the impact of a default by a firm such as Lehman Brothers by spreading the risk among the clearinghouse members and collecting appropriate collateral on every trade. ICE so far has contributed $120 million to its two clearinghouses' guaranty funds, its maximum exposure in the event of a major default or meltdown in the CDS market. Barring that, clearing swaps is a relatively high-margin business. ICE is telling analysts that it expects revenue of about $70 million this year from CDS clearing, with 16 percent to 20 percent of that falling to the bottom line.

That Sprecher uncovered a great profit-making opportunity in the rubble of the financial crisis is clear. Over the past year, ICE's shares have risen 18 percent, boosting his personal stake to more than $192 million. Whether his clearinghouse, so finely tailored to the interests of the major banks, contributes to a safer, more transparent financial system is a matter of contention.

Sprecher grew up in Madison, Wis., the son of a nurse and a life-insurance salesman who still goes into the office at age 80. After graduating from the University of Wisconsin in 1978 with a degree in chemical engineering, he worked for the air-conditioning company Trane, which allowed him to get his MBA from Pepperdine University while working full-time. He left Trane in 1983 at the age of 28 to form a power-plant developer, Western Power Group.

While building that company, Sprecher took some weekends off to race open-wheel Formula Fords, the beginning circuit for Formula 1. Later, in the early years of building ICE, Sprecher would challenge colleagues to races at a local go-kart track after work and join in sushi and beer afterward.

Using money Western Power received as part of a multimillion-dollar lawsuit settlement, Sprecher purchased Atlanta-based Continental Power Exchange in 1997 from the MidAmerican Energy utility. That power exchange became the foundation for ICE in 2000.

That year, Sprecher presented his business plan for online energy trading to Goldman's Gary Cohn and Morgan Stanley's John Shapiro, who agreed to do some of their energy business through ICE in return for equity stakes in the startup, according to Sprecher. They also recruited other industry players such as BP (BP) and Shell (RDSA) to trade on the new online system, he says. The banks sold most of their stakes after ICE went public in 2005.

Shapiro, who retired as Morgan Stanley's chief of global commodities in 2008, recalls flying to Atlanta to meet Sprecher and reaching a deal on the spot. "We had already talked to a number of other players and we wanted him to be our guy," Shapiro says. At the time, Wall Street firms and energy companies were looking for a competitor to EnronOnline. Shapiro credits Sprecher for not allowing his ego to sidetrack a deal. "Jeff was very smart to recognize he had to give away a lot of equity. It's better to have a small piece of something that's very successful. There were a lot of failures from people who tried to do it all themselves," Shapiro says. "There were a lot of dreamers and ego guys in that space early on. Jeff didn't fit those modes." Cohn, now Goldman's president and chief operating officer, declined to comment.

Energy trading surged at ICE in 2001 after its larger rival, Enron, blew up. That same year, ICE expanded into crude oil by acquiring the International Petroleum Exchange in London. Renamed ICE Futures Europe, this London exchange trades half of the world's crude and refined oil futures. Its benchmark Brent crude oil contract is used to price two-thirds of the world's oil supply, according to ICE.

Sprecher, a self-described workaholic, found more than money at ICE. In 2004 he married Kelly Loeffler, 39, the company's vice-president for investor relations and corporate communication. She earns $470,000 annually and works in an adjacent office. "I'm a really hard worker, so if my wife wasn't in the building it would be much harder on our relationship," says Sprecher, who earned $6.8 million last year.

The couple's 2009 purchase of a European-style mansion in Atlanta, which has 7 bedrooms, 11 bathrooms, and 14-foot-high ceilings, set an Atlanta-area record, at $10.5 million, for the most expensive home sale, according to real estate research firm SmartNumbers. The home is next door to the mansion once owned by former Coca-Cola (KO) President and Atlanta icon Robert Woodruff.

The couple, who have no children, host charity events as well as frequent political fund-raisers, including one for former Republican Presidential candidate Mitt Romney. "We're not necessarily showy people," says Sprecher. "The only way that we can really rationalize having a big house is to open it up for fund-raisers and events."

On Sept. 9, 2008, six days before Lehman filed for bankruptcy, Sprecher and his ICE team sat down with regulators at the Federal Reserve building in New York to pitch Sprecher's plan for a clearinghouse. In a drab conference room with folding tables, Sprecher gave Fed officials and representatives of the New York State Banking Dept. a detailed PowerPoint presentation and fielded questions about how ICE would manage the risks of credit default swaps.

Sprecher also began negotiating with 10 of the biggest banks to acquire Clearing Corp., their existing clearinghouse based in Chicago, and lock up their CDS allegiance. On Oct. 30, 10 days after disclosing his plans to regulators, Sprecher announced ICE's agreement to acquire Clearing. ICE agreed to pay $39 million and split the future profits 50-50 from the clearinghouse.

Rival CME was working with Chicago hedge fund Citadel Investment Group to launch an electronic exchange and CDS clearinghouse, a direct threat to the over-the-counter trading dominated by the large banks. When the Clearing deal was announced, CME Chairman Terry Duffy said his company offered the "truly neutral solution" and doubted the market would accept the ICE clearinghouse, since the banks had such a vested interest in the business. CME has since dropped its plan for building an exchange with Citadel and now the company is fighting for relevance against ICE's clearinghouse juggernaut. "We view ourselves as very competitive there," says CME Chief Executive Officer Craig Donohue. "There's a lot of time in this game."

The clearinghouse is regulated by the Federal Reserve Bank of New York and the New York State Banking Dept., and the financial reform bill will add oversight from the Securities & Exchange Commission and the U.S. Commodity Futures Trading Commission. "They will find fault, I'm sure, with some of the things we have done," Sprecher says.

If so, it wouldn't be the first time ICE has faced government critics. When oil prices soared to more than $140 a barrel in 2008, some members of Congress blamed speculators trading on ICE for the jump, according to lawmakers' comments and letters to regulators at the time. "It's time to melt away the idea that ICE is a foreign board of trade and instead shine some bright light into this dark market," Senator Maria Cantwell (D-Wash.) said in a June 2008 statement.

Sprecher responded the following month in a letter to Senator Joe Lieberman, the Connecticut independent: "A minority view seems to have developed that 'excessive speculation' is a primary driver of today's oil prices," he wrote. "This view is misguided, and we are gravely concerned that government intervention with efficiently operating markets will only result in market distortions."

Today, the power of speculators in the CDS market troubles executives such as Bill Zollars, chairman and CEO of Overland Park (Kan.)-based YRC Worldwide (YRCW), the largest U.S. trucking company. His company nearly fell into bankruptcy in December as Goldman Sachs and others sold credit default swaps that would profit from the company's demise. Zollars says he was shocked to learn that his company "was worth more dead than alive" to certain bondholders who had purchased those swaps on YRC. "It was a strange situation where people are making money if they force the company into bankruptcy and 35,000 jobs disappear. That doesn't sound like the American way," Zollars said. What's more, he says, the lack of transparency on CDS made it difficult to find out who was betting against the company so he could appeal to them for help in a restructuring.

The Teamsters, which represents YRC workers, learned of Goldman's involvement from anonymous tips and e-mails of computer screen shots showing Goldman traders dealing in the YRC swaps. The Teamsters pressured Goldman to stop, and the bank agreed to help YRC restructure outside of bankruptcy, according to Zollars and union officials. (A spokesman for Goldman declined to comment.)

Sprecher agrees credit default swaps can harm specific companies or even countries by betting against their sovereign debt. "Over time we will have more transparency and the SEC will come up with circuit breakers and other things to prevent people from abusing trading practices and creating a run-on-the-bank scenario," Sprecher says. Although the clearinghouse concept would not have prevented a situation like AIG from developing—"the instruments AIG wrote were highly customized," he says, and "essentially unclearable"—the move by regulators to bolster collateral requirements for CDS traders has reduced the possibility of another firm imperiling the entire financial system.

Although ICE is clearing about $1 trillion of credit default swaps at any given time, most of the CDS market remains uncleared. Alexander Yavorsky, a senior analyst at Moody's Investors Service (MCO), says it's hard to estimate how much of the market will become standardized and liquid enough to be cleared. He says more than 50 percent of the CDS market should eventually be eligible.

For now, the close, mutually beneficial relationship between ICE and the banks that trade through its clearinghouse strikes watchdogs as the wrong way to go. Robert Litan, vice-president for research and policy at the Kauffman Foundation and a senior fellow at the Brookings Institution, is concerned that valuable pricing data will not be fully reported, leaving ICE's institutional partners with a huge informational advantage over other traders. He calls ICE Trust "a derivatives dealers' club" in which members make money at the expense of nonmembers.

Darrell Duffie, a finance professor at Stanford University who co-authored a report in January with the New York Fed on derivatives, raises similar concerns. "We already have an oligopoly among these banks in the over-the-counter derivatives market, and this just further extends the oligopoly to clearing."

Sprecher dismisses the idea that he is Wall Street's caddie, noting that ICE monitors the creditworthiness of member banks and can demand additional collateral if circumstances warrant. "We stand up to the dealer banks every day," he says.

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