Bringing the dealer-to-client repo market to the digital age

So much of the credit and rates market has been digitized in recent years, but one part of the fixed income market still eludes widespread electronification: the dealer-to-client repo market.

There are several reasons why this is still done manually. One primary driver: Relationships are instrumental in this segment of the market. Dealers and clients generally agree to trades off-venue— on the phone, over Instant Bloomberg, or over email. Dealers need to have the balance sheet capacity to make the trade.

Now new regulations — specifically the Securities Financing Transaction Regulation, or SFTR — is putting more pressure on firms to digitize the workflow.

Market and regulatory pressures

Since the financial crisis, regulators have focused on the opaque repo market amid concerns about shadow banking. Consequently, new regulations have driven significant change in the repo market, increasing both capital and reporting requirements. The result: increase in market friction amid higher transaction costs and capital costs.

Low and negative interest rates have put more pressure on profits because of balance sheet constraints. All these factors are pushing dealers to become ever more efficient, reduce costs and maximize earnings on repo trades, which are far less profitable than they were five years ago.

The latest regulation is the European Securities and Markets Authority’s SFTR, which went into effect in July 2020. The new regulation mandates that firms must report on all new and modified transactions to trade repository firms. Firms must record and report data regarding the trade, counterparties, underlying collateral, daily valuations and margin re-use.

This poses a unique challenge to the dealer-to-client repo market, since transactions are still heavily voice-based and manual. While a portion of the European dealer-to-dealer market has been automated for a few years now, the dealer-to-client market is proving harder to digitize. Meanwhile, margin and regulatory pressures continue. While SFTR is a European regulation, there is some expectation that the U.S. will move toward similar regulation in the near future.

Bloomberg advantage

Digitizing a workflow end-to-end is a complicated, multi-step process. It helps to start by using what you have. In the case of dealer-to-client repo trades, much of the process currently takes place over IB or email. Rather than trying to change the current workflow, Bloomberg has developed a way to preserve that relationship and digitally capture trades.

Using AI and natural language processing, IB can intelligently mine messages for relevant information, then convert it into a trade record that the client can submit to the dealer for electronic booking purposes. This way, the workflow is uninterrupted. Clients can continue their pre-trade negotiations on Bloomberg, then execute the trade on an electronic platform by pressing right-click to send the information to BOLT Repo, Bloomberg’s Bid/Offer List Trading solution. This provides both counterparties’ key SFTR information, such as Unique Trade Identifiers (UTIs) and timestamps, along with the speed and efficiency of electronic execution and STP.

BOLT then sends an RFQ to the sell-side dealer. Upon receiving the request, the dealer can quote the RFQ. Repo rates can be GCT plus a spread or a rate that’s entered manually. The buy-side will decide whether or not to accept the quote and, if accepted, the sell-side confirms and the trade is executed. Once the trade is executed it is automatically dropped into TOMS, Bloomberg’s sell-side order management system, for booking.

There is also lifecycle management on all the trades and positions. Clients have the ability to peek into the repo worksheet and take a look at the settlement ladder. They can aggregate across their repo books and cash books to see their overall position in a specific security and compare that to what they would have 30 days out. For instance, if a client has a $10 million position in a certain security and a repo of $5 million for five days, they would have a drop of $5 million in that security for five days. Then five days later, it would come back up to $10 million.

Another advantage of booking a trade in TOMS is its integration with other workflows, like collateral management. Repo transactions are typically governed by a legal agreement and collateral is exchanged. Firms need an easy way to manage their legal agreements. With SFTR reporting, certain terms of the legal agreement are required. TOMS allows firms to do this easily.  Legal agreement terms can be stored online and are used as a basis to calculate margin exposure with counterparties.  When booking a trade in TOMS, relevant fields that are required for reporting purposes will be enriched as part of the reporting message.

Firms can also manage their collateral within Bloomberg.  Based on the legal entities, agreement terms stored and transactions booked in TOMS, the margin calls will be calculated based on netting sets.  Firms can then manage and process their margin events to manage and mitigate counterparty risk.

Change often happens incrementally. With Bloomberg, clients and dealers can digitize records as needed while still preserving the current workflow. So much of repo negotiations are already conducted across various Bloomberg channels. Now, dealers and clients can seamlessly move from that pre-trade negotiation into an execution environment without having to step away from a Bloomberg terminal. Bloomberg offers an end-to-end workflow solution that can alleviate the burden of SFTR compliance.

To learn more about Bloomberg’s Solutions for the Sell Side, click here.