US swaps industry attacks disparate rules

The swaps industry publicly criticised proponents of futures contracts as the lead US derivatives regulator debated the wisdom of pushing the sector to futures.

Companies expected to play a major role in trading swaps on swap execution facilities (Sefs), such as Tradeweb and Bloomberg LP, hit out at US regulators at a Commodity Futures Trading Commission roundtable held in Washington on Thursday for encouraging the transformation of the sector by what they criticised as disparate rules.

The established swaps industry has become increasingly worried that the lower cost of clearing and transacting a swap future will lead to a big shift in the over-the-counter derivatives market once banks and customers start centrally clearing swaps this year.

Lee Olesky, chief executive at Tradeweb, said the effect of the CFTC’s rules “creates an uneven (and costly) playing field for market participants that wish to trade swaps”.

George Harrington, global head of fixed income trading at Bloomberg, said he could find “no economic argument” for the disparity in margin rules between futures and swaps.

He also warned that the CFTC’s push runs the risk of increasing systemic risk.

Futures have lower margin requirements than swaps, which free up more cash for market participants using futures rather than swaps.

It is also easier to dodge rules aimed at providing maximum transparency by engaging in so-called “block” trades, or large trades off exchanges, which critics argue the futures exchanges have facilitated by the setting of low thresholds.

In contrast, Sefs face higher thresholds for block rules under proposed CFTC rules.

Compared with cleared swaps, swap futures allow investors to achieve margin savings ranging from 45 per cent to 74 per cent, according to Nomura Securities.

“A margin regime that dramatically favours futures over swaps lowers the value of the Sef to the point of potentially making it unviable from a business standpoint,” Mr Harrington said.

CME Group and IntercontinentalExchange have transformed the energy derivatives market by converting swaps contracts to futures in response to the US overhaul of financial regulation known as Dodd-Frank and subsequent rules by the Commodity Futures Trading Commission.

Thomas Farley, IntercontinentalExchange senior vice-president of financial markets, defended his company’s decision to change swaps to future contracts, which he said fell under the “global gold standard of regulation”.

“Our customers love that decision,” Mr Farley said. “One hundred per cent – not 95 per cent, not 98 per cent, but 100 per cent were supportive of our decision.”

Many in the swaps industry who have invested in new swap trading platforms are upset that final rules for these so-called “swap execution facilities” have not yet been finalised. CFTC commissioners have been weighing pending final rules since October.

In contrast, swap future platforms at the CME and the Eris Exchange are up and running, but have yet to attract critical mass as mandatory clearing does not kick in until March.

Scott O’Malia, a Republican on the five-member CFTC commission, told a swaps industry gathering in New York on Wednesday that final rules for Sefs may be voted on around the middle of February.

“Our job isn’t to pick winners and losers five years from now – the market will take care of that,” he said. “I want a robust competitive market that will bring transparency to trading derivative products and I want it to happen now, not a year from now.”