Loopholes in OTC Derivatives Bill?

While the House of Representative passed a major financial reform bill last Friday, Kevin McPartland, senior analyst at Tabb Group, questioned in a a video posted on Youtubewhether there are some major loopholes in the OTC derivatives bill such as allowing voice brokers to register as swap execution facilities.Months ago, lawmakers ruled out the notion that everything had to be traded on an exchange and cleared through a central facility, says McPartland.

"Where we are today is that anything that is cleared has to be traded on an exchange or a swap execution facility," says McPartland. But there are exemptions for those non-financial firms that use OTC derivatives purely for hedging.

There is also the concept of a "major swap participant," which will be defined by the CFTC and SEC, and it remains to be seen how they will define it and who will be in that category, says the analyst. Another unknown is how big a player a buy-side firm would need to be to qualify as a major swap participant.

Another potential loophole is that the current bill includes electronic platforms that are not exchanges and also includes voice brokerage platforms, which execute trades over the phone and then punch them into systems after the trade is executed.

"Many people think this is a problem," says McPartland, "Why would we include voice brokerage as a swap execution platform? That's how the process happens now. The process does work, the problem is transparency after the fact," says McPartland. If these voice brokers are required to register and report those trades, we'll know the details after the fact.

While supporters of electronic trading would like to see everything trade on an exchange or execution facility, McPartland contends, "We can't expect every instrument to trade on a screen, there's just not enough volume." Instead, voice brokers that register as swap execution facilities, could report their trades to a central repository similar to TRACE in the U.S. corporate bond market and reporting to the tape in equity markets. McPartland contends this is improving the current process and adding transparency and data reporting requirements.

Even though the House bill is not perfect, McPartland feels, "This is a good thing. This is actually improving transparency," he says. Still, the details on execution and the ideas of clearing and reporting that need to be worked out, he adds. Next the senate will work on its own version of the bill and it will take be many months of debate before the two chambers negotiate a final bill, he predicts.In a video, Tabb Group senior analyst Kevin McPartland discusses loopholes that still remain in the OTC derivatives market reform bill. 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