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CFTC Puts SEF Approvals on the Fast Track

Last week, the CFTC granted "cursory" approvals to several firms setting up swap execution facilities in compliance with the Oct. 2 deadline.

Regulators are fast tracking approvals for new swap trading platforms as the Oct. 2 deadline rapidly approaches for filing these applications. Last week, five firms including Market Axess, TeraExchange, Javelin Capital Markets, trueEX and BGC Derivative Markets received temporary approval from the Commodity Futures Trading Commission to operate a swap execution facility (SEF) under new derivatives rules.

So far, temporary approvals have been granted to 11 swap-trading platforms mandated by Dodd-Frank to bring more transparency into the $630 million swaps market, where trades have been negotiated via voice brokerage. A total of 20 companies are expected to file to become SEFs, according to published reports. As of two weeks ago, Bloomberg LP and Tradeweb were the only two platforms approved as SEFs.

Initially, the CFTC is offering temporary registration. “They wanted to get things moving quickly. This is a cursory review,” explained Leonard T. Nuara, president & COO, and co-founder of TeraExchange, which received temporary registration from the CFTC to operate a multi-asset class swap execution facility or SEF. “We were born yesterday,” said Nuara, who said his colleagues were pacing up and down the hallway like expectant fathers in a 1950's movie as they waited forthe letter.

“The CFTC has their equivalent of a fast-track analysis they are granting every SEF applicant if they meet the minimum requirements to be a SEF,” according to Nuara.

While the review may be cursory, TeraExchange submitted 850 pages of material to the CFTC, as proof that its infrastructure works, who its personnel were, and financial status, etc. TeraExchange will enable participants to execute trades in multiple asset classes, including interest rate swaps, CDS indices, FX and non-deliverable forwards (NDFs).

A more detailed review of the SEFs will continue over the next two years to give them their permanent license, said Nuara.

Meanwhile, buy side firms who will gain access to the swap trading venues for the first time, will soon be faced with a slew of choices.

There was some speculation that the Oct. deadline could be delayed to give the buy side more time to prepare.

At a Sept. 12 meeting in Washington D.C., two commissioners, Mark Wejien and Scott O’Malia, said they support a delay a meeting of the Technology Advisory Committee (TAC), according to a Reuters article. It is not known if the CFTC’s Chairman Gary Gensler would approve a delay.

Another facet of the SEF rules, are what instruments are to be traded with a certain protocol on the SEF platforms. Once they are licensed, SEFs are expected to submit so-called “made-available-to-trade (MATT) applications to the CFTC. SEFs are expected to submit their applications for MAT in October and November.

Most likely benchmark instruments will be included in MATT applications—requiring those to trade via the RFQ method of or using a central order book. Initially, clients will need to querty two dealers (RFQ2), and next year they will be required to query three dealers (RFQ3)

Once MATT determination is made, a firm that wants to execute a MATT instrument can no longer call a dealer. “They must trade on a SEF either as a request-for-quote or central limit order book protocol.”

One of the problems with the traditional RFQ is that it can lead to information leakage, said Nuara. To enable clients to maintain their relationships, but not disclose their relationship to the market via RFQ2, TeraExchange has created direct orders. These directed orders enable a participant to submit large liquidity orders to a market-making dealer on the platform, but still maintain anonymity in the marketplace, said Nuara.

To standout from a pack of competitors, TeraExchange alsoprovides an execution management system, “a tool for the trading of our swaps as well as other financial instruments. You can trade equities, futures, bonds and swaps simultaneously, for no additional cost,” said Nuara. Through the EMS, participants can connect to other venues. "it's part of our value proposition," said Nuara. Moreover, clients can connect to the SEF in a variety of ways, including a cross-connect at Equinix, via telecom providers IPC or BT Radianz or via a VPN. We call it a frictionless implementation," said Nuara.

Today, trueEX said it will offer its innovative, anonymous CLOB for the most liquid swaps as well as SCSM (Standard Coupon Standard Maturity) swaps, all with pre-trade certainty of clearing and the benefits of standardization, transparency, anonymity and the ability for market participants to submit limit orders.

In addition, trueEX will help the buy side to connect with clearinghouses. trueEX has executed clearing agreements and will provide instant and direct connectivity to both CME and LCH for all swaps that are clearable at CME and LCH. trueEX will be live with CME on October 2nd and with LCH shortly thereafter, noted the company in its release.

But are buy side institutions prepared to trade on the platforms?

According to a US fixed income report that interviewed 1,000 portfolio managers from Greenwich Associates, SEF trading will change the way that the buy side and sell-side trading desks do business. Trading via SEFs will be a less personal experience, wrote Greenwich Associates. “While voice trading will still be permitted in some cases, the vast majority of trading in mandated products will occur on the screen,” wrote Greenwich's market structure technology service.

While the changes are dramatic, they come with a silver lining, said Greenwich research consultants. “Mandatory SEF trading will fundamentally change the way buy-side swap traders interact with the dealer community, the ultimate result will be a positive one, especially for smaller and mid-sized asset managers,” wrote Kevin Kozlowski, principal, market structure and technology advisory service. “They will benefit from tighter spreads and access to more liquidity providers than were available to them in the OTC market.”

Ivy is Editor-at-Large for Advanced Trading and Wall Street & Technology. Ivy is responsible for writing in-depth feature articles, daily blogs and news articles with a focus on automated trading in the capital markets. As an industry expert, Ivy has reported on a myriad ... View Full Bio

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