Markit and Traiana prepare for clearing hub showdown
Two competing credit-checking utilities are preparing for launch in response to new clearing and execution rules for over-the-counter derivatives – even though both concede there may only be room for one and dealers have pressed for a single hub.
The fight will pit CreditLink – run by Icap-owned Traiana – against Credit Centre, a venture run by Markit’s middleware provider, MarkitServ. Both claim to have completed development of their respective services and say they are currently in the process of testing with futures commission merchants (FCMs) and their clients, as well as trading venues, in preparation for the market to start using swap execution facilities (Sefs) later this year. When that happens, derivatives market participants want to know at the point of execution that their new trade will be accepted by a clearing house, and the two hubs hope to provide certainty by conducting pre-trade checks on the two counterparties’ credit limits.
“Traiana CreditLink has been operational and in deployment for interest rates and credit default swaps since January and we are into implementation with multiple FCMs, trading venues and buy-side firms. Today, we are fully operational and ready to meet the regulatory deadlines,” says Nick Solinger, chief marketing officer at Traiana in New York.
MarkitServ’s offering is also ready to go, says managing director Jeff Maron. “We have folks testing on the platform now and execution venues are coding to our application programming interface. Operationally, on the platform today, a buy-side user is able to look across all its FCMs and see its credit lines with each, even down to credit lines for each underlying fund or trading entity, and they can manage or monitor those in real time,” he says.
But competition between the two could be a problem. Critics argue that having more than one credit-checking utility defeats the object of the exercise – the idea is for Sefs, FCMs and central counterparties (CCPs) to be connected to a single interface, enabling super-fast checking that a client is within the limit set by its FCM, and that the clearing member is within limits set by the CCP. Twin hubs undermine that argument – as Paul Hamill, head of matched principal trading at UBS in Connecticut, pointed out last March during a meeting of the Commodity Futures Trading Commission’s technology advisory committee.
“The idea of this kind of hub is a nice idea [but] it only works if you have one hub. What if you have five? Suddenly you’re then back to the same problem where you kind of wish you were just using the three CCPs, or however many it is that we have,” he said.
MarkitServ and Traiana concede that point, but both argue their service will ultimately force the rival hub into submission.
“The market is looking for a unified solution and I think we are that solution. It’s up to the market to make that selection, but we believe we are going to prevail,” says MarkitServ’s Maron.
“Choosing a single hub simplifies and lowers costs for the FCM,” says Traiana’s Solinger. “Obviously, FCMs and Sefs would prefer not to have to connect multiple times, so there are forces that would prefer one hub solution in the market-place, but for the time being there are two, and that competition will be healthy for the industry and keep innovation high. But in the long-term, from a structural standpoint, it would be better if there were only one solution.”
The clearing certainty problem arises because a trade that is subject to a clearing mandate will be illegal if it is not accepted by a CCP. That could force the transaction to be unwound, which would be problematic if the market had moved and the position had already been hedged or was itself acting as a hedge.
Market participants expect the most likely cause of a clearing rejection to be a breach of either the client’s credit limit with its FCM or the clearing member’s limit with a CCP. In the US, the first mandate took effect on March 11, requiring so-called category one firms – dealers, active funds and major swap participants – to clear certain interest rate swaps and credit default swaps. For now, FCMs are conducting credit checks on a post-trade basis, and have 60 seconds to accept or reject the transaction. But when much-delayed Sef rules come into force, a large swath of activity will be executed on these new venues – and the idea is to give users certainty that the trade will not break after it has been executed, which requires a pre-trade credit check.
A joint International Swaps and Derivatives Association and Futures Industry Association committee has been working on this issue since early 2011, but consensus has been elusive. The hub approach is just one of the options being considered. In other variants, credit checks would be performed by Sefs, FCMs, CCPs or a combination of the three.