Good event last week in Chicago. I thought I’d summarize what I learned.
Day 1: Keynote by Chairman Massad
The day began with some personal excitement. The Chairman and other Commissioners have been very good about giving “shout-outs” to Clarus on our efforts with enriching the public swaps data. Just the prior week, the Chairman mentioned us at SEFCON in his keynote.
During his FIA keynote, he began by discussing how far swaps reporting has come from being non-existent just a few years ago. He put up screen shots of the DTCC raw data, then BGC SEF website, and said that other firms are now taking this data and making it useful. It was at this point I got my camera out to take a picture of the Chairman standing in front of the 50 foot projection screen, with what surely was going to be a picture of one of our Clarus applications…. Then he proceeds to show a 5 week old FIA report.
I decided not to take that picture; in the spirit of “what I learned” – I learned the one place we don’t get a mention is at an FIA conference.
- Upbeat on the uncleared margin rules in the US – he see’s them being more or less harmonized with international efforts.
- Working on formally registering SEFs (as per my SEFCON blog).
- CFTC is building swaps surveillance, for example stress testing cleared and Bilateral swaps together.
- Data quality of swaps data has improved – he referenced a heat map showing how many firms were simply not filling out some swap fields but this has improved.
- Gave an example (to the right) of the same product (OTR CDX IG) being called 8 different things in the public reports. I would note that Clarus normalizes these nicely!
- There is an initiative to standardize some of these fields, and have even begun an international task-force on this issue. This task-force will also try to harmonize trade ID’s internationally through the product life cycle. That sounds astronomically hard to do.
- Have fined a bank for bad swaps data reporting and will be cracking the whip more.
Day 1: Clearing Leaders
The first panel of the event has, over the years, become one of the more lighthearted ones, with Gill (CME), Sprecher (ICE), Preuss (Eurex) and Tilly (CBOE) vying for the best one-liners.
- On the subject of innovation, the only explicit mention was the blockchain, where each firm appears to be evaluating its potential uses. Gill pigeon-holed it as “back office”.
- Jeff Sprecher gave some education on how “paying for order flow” works in equities. Many proper cases were cited (one by Ed Tilly), however there seems to be something sinister evolving with a few cases – the key takeaway is that some firms are paying for flow so that they can package up the data that comes out of it – and sell it. Putting two and two together, ICE just bought IDC.
- Position limits was mentioned quite a bit. It’s a subject I haven’t followed closely as I have generally felt it was just futures related. However I’ve come to learn it does/should apply to swaps. The panel’s assessment is that it will further fragment the markets if enforced as feared. Good blog for another day.
- Regulatory and capital issues were high on the list of topics this week. Gill gave a nice history lesson, claiming that the futures regulations handled much of this properly, citing the inability to rehypothecate collateral as a pillar within futures, but something that got lost with the swaps clearing mandate. He felt it was a “Crying Shame” that regulators failed to adopt some of these parts that already work.
- Jeff Sprecher has a good perspective on market fragmentation now that he runs the NYSE. He was referencing the ability of exchanges to pause trading in a contract, but within equities (and the various exchanges, dark pools and other venues), that all they can do is have everyone agree to stop for 10 minutes, then start again and see if problem is still there.
- With respect to swap futures, Gill said that Eurodollars took 5 years to gain traction, so not to count swap futures out just yet. I have since corroborated this fact – I had just assumed Eurodollar futures were always the go-to contract.
- Andreas had the best one-liner – in reference to mounting regulation and its impact on markets – our industry is “optimizing disimprovement”.
Day 1 – Treasury Markets
The Treasury Markets panel continued the fearmongering of disappearing liquidity:
- Don Wilson quickly cited that there is simply no transparency into the Treasury market. It does fascinate me that there is TRACE for corporate bonds, SDRs for swaps, and yet the treasury market is a black hole.
- I still had yet to hear anyone give actual metrics around the loss of liquidity. I do believe all of the anecdotes that dealers warehouse less inventory, that volumes are down, that off-the runs have (deservingly) wide bid/offers, but I still haven’t seen metrics around order book depth and bid/offers in on-the-runs.
- I forget which panelist mentioned this (maybe Trent Reasons of the US Treasury), but supposedly in Germany, the cash bond market is not liquid at all – Bund futures are much cheaper and more liquid than cash. Whereas in America we seem to have enjoyed liquid markets in both, and the argument seems to go that we need a liquid cash bond market so that the US taxpayers don’t suffer from the US raising funds. (this is why I think it was the US Treasury representative that said this!)
- There is a notion that a great degree of internalization occurs in Treasuries, whereby banks take all of the good client business and match it internally. Everything else ends up in the order book – which is why Isaac referred to the order book for Treasuries as “toxic” – all the stuff nobody wants.
- The topic of venue structure was discussed. A few panelist suggesting a move to “all to all” venues. Sounds all too familiar – maybe we should call them SEFs.
Day 1 Lunch
I have since watched a few episodes on Amazon. Good stuff.
Day 1 – Market Structure: Clearing
Few tidbits I took away:
- John Dabbs cited the irony that IOSCO has promoted multiple CCPs, but that capital regulations are promoting putting all your eggs in one concentrated CCP.
- Now that FCM’s are actively managing their client portfolio by firing some clients, we’re at this odd situation that if a member defaults, nobody is going to want to pick up that members clients (through porting of accounts). What does that say about our industry? Surely this is one of the few industries where firms are actively refusing good (?), paying clients. I know if someone wanted to give me clients, I’d take them!
- Kevin McClear of ICE mentioned the Sponsored Principle Model (SPM) that I hadn’t heard of before. It doesn’t seem to be operative anywhere yet, but the jist is that a client can “self-clear” as a Sponsored Principle (SP) using this model, whereby the SP contributes to the default fund and pays margin directly. Their sponsor (an FCM) does the bank-stuff like contributing prices for revaluations – oh and a small detail – the FCM is on the hook for default (presumably beyond the SP’s initial GF contribution). I’d have to think this is not popular with FCMs. And oddly I did not hear this mentioned again at the conference.
Day 2 – Liquidity Crisis
So if the Treasury panel was not enough to discuss the liquidity fears, now we had an entire panel:
- Alliance Bernstein appeased me by claiming that they have seen the bid/offer widen, and market depth decrease. Still no firm metrics though.
- Paul Hamill of Citadel referenced how liquidity is just repriced – perhaps that it was underpriced back in the heyday (with respect to balance sheet usage), and that this is the new normal now, so get over it. Those are my words, not his.
- Paul fairly pointed out that the swaps business was “designed” many years ago around 10 banks providing liquidity, so if you tinker with them, you are effectively tinkering with the entire market.
- Whether this was said or I just inferred it, it made me realize that the regulations we’ve seen across the globe were intended to do just that – deleverage/de-risk the banks – but that there was supposed to be this influx of new participants to fill the void (eg trading on SEFs). The only notable new participant seems to be Citadel; and while there are others coming in, the drop-off rate seems to be much higher than the joining-in rate.
- I was surprised to hear ETF’s discussed at any length. Michael Yarian referred to Rates ETF’s as a non-event. I hadn’t even realized they had even gotten that far. The benefits of ETF’s were extolled – don’t have to roll them (as you would have to in futures), no FCM is needed, etc. One panelist did say however that they are even less liquid than mutual funds. But does make me wonder. I’d have to think the biggest knock against ETF’s is there is an underwriting involved – I can’t see JP Morgan trading the Barclays 10 year swap ETF, or whatever it is. But I know very little about ETF’s.
Day 2 – Future of Clearing
Fairly glim perspective on the future of clearing!
- Pick your favorite 3 to 5 letter acronym (SLR, CEM, SACCR) and place “unintended consequences” after it.
- Mike McClain of the OCC corroborated this, citing that they only see liquidity in short dated options, claiming firms cannot afford to carry longer dated positions.
- I hadn’t appreciated the issue of Central bank liquidity. The argument made was that central banks need to provide funding in times of stress to clearing houses. Particularly given the fact that CCP’s are pledging government bonds as collateral in exchange for the loans! It seems the US CCP’s have applications in to be “members” of the Central Bank, whereas in Europe they haven’t even gotten this far.
- Lot’s of talk on the mechanics of how each firm manages risk, but nothing new (haircuts, eligibility, concentration limits, etc).
Day 2 – Blockchain
Ray Kahn of Barclays chaired a panel of blockchain experts. Ray does not claim to be a blockchain expert (and I can now verify that) but Ray does know clearing inside and out. I got the sense questions and answers were going over each other’s heads. I’ll give you an example:
Ray: “I know how to run an FCM. You technical geniuses know Bitcoin. So, tell me, can the blockchain handle LSOC?”
Panelist: “Yep, sure can. What’s LSOC?”
Bit of journalistic freedom there, but you get the point. Besides the blockchain being a ledger that can persist movements and balances of accounts, I picked up the following:
- One panelist claimed that 90% of the effort in back offices is spent with reconciliation. He felt that using the blockchain would remove all of this effort, now that you and all of your counterparties all reference one common ledger.
- Dan Connell mentioned that there is an initiative by one firm to run an Uber on the blockchain. The premise is, let’s all use the blockchain to organize a taxi. Don’t get me wrong – I am convinced this will be one of the uses of a common ledger / database in the years to come – but I do not believe there will be any commercial gain to be had by a firm setting it up – and oddly, that is one reason why a common ledger is so valuable – it facilitates commerce without middlemen.
- Ray had a moment of clarity and announced his imminent plans to launch an “Uber FCM” – to cater for signing up to an FCM in 10 minutes.
- David Ripley of Gildea had a good point that emerging economies will be the biggest winner of technology such as this, as they will be able to leapfrog all of the heavy infrastructure that is in place today.
Good lighthearted panel. I suspect we may one day look back on this panel in the same way we look back at a mandatory clearing panel in 2009.
Day 2 – Cloud Technology
As all of our Clarus applications run in the cloud, I wandered into my final panel to see if I could learn anything.
- While there are many Cloud vendors, I was amazed that Amazon AWS was the only one being used in earnest by the panelists these days. The moderator did say he invited others to balance the field.
- While each of the CTO’s on the panel leverage the cloud heavily, they did say there are cases where they stick things in a colocated center. The rule of thumb given was “Milli vs micro” – that is – if you need millisecond response, use the cloud, but if you need micro-second response, put it “on Metal” – which I assume meant your own box or in a colo.
- A couple panelist’s quoted a FINRA announcement that the cloud has better security than their in-house cloud. All of the CTO’s seemed to agree that the cloud (eg Amazon AWS) was indeed more secure than anyone’s internal infrastructure – and worse – that this perception of safety with your own network is a hazard.
- The symantics of “Public” and “Private” cloud are thus very dangerous. Scott Caudell of Interactive Data felt that many “Private” clouds are really operationally no better than “Public” clouds.
Summary
Another good FIA event. A bit somber at times, with all of the talk of less liquidity, shrinking markets and regulatory hurdles. But the financial industry has always been an innovator so was able to cheer myself up at a few of the panels and discussions. Particularly after a couple beers at the social functions.