The CTA and the self-build Sef: ‘We didn’t intend to do it’

How Aegis built the first non-broker Sef in five years and made way for ‘hundreds of billions’ in OTC trades

Tech-comes-to-commodities-trading montage

“Why are we still doing transactions over the phone and in chat?”

Bryan Sansbury would like to know.

The CEO of Aegis Hedging, the Texas-based commodity trading advisor (CTA), is not impressed by having to entrust customer trades to these outdated methods, as he sees it.

Corporate users of commodity derivatives – airlines, energy companies and manufacturers – typically trade over the counter in the commodity swap market. In the OTC market, they don’t have to navigate the daily changes to variation margin that come with exchange trading, and margins are calculated at a more leisurely pace – often monthly.

But OTC commodity swaps are still negotiated over the phone, by email and in chatrooms, such as Ice Chat and Bloomberg Chat. And, in Sansbury’s opinion, are stuck in the past.

“I look at chat not unlike doing a huge swap negotiation over text message or WhatsApp – [it] doesn’t make a lot of sense.”

As the firm’s CEO, Sansbury’s main role is to advise clients on the trading of commodity derivatives. But, being less than impressed by the means of trading, he began to look for a way to help his corporate clients transact digitally in a more professional setting.

And it was in this search that Sansbury – almost inadvertently – led his firm into becoming the first CTA to build a swap execution facility (Sef), the Dodd-Frank-mandated platforms that bring together buyers and sellers of swaps in the US.

“We didn’t intend to do it,” he says. But things clearly took on a momentum of their own.

It began in 2019, says Sansbury, with the basic intention of facilitating a more conventional marketplace where customers could execute their transactions with more state-of-the-art technology that would create an audit trail and capture data on pricing.

And so, Aegis started to build its own technology, using in-house request-for-quote (RFQ) software.

Bryan Sansbury

“We had a really simple thesis,” says Sansbury. By building an RFQ platform, the firm would “really start to automate and bring this market into the nineteenth century,” he adds, sardonically.

The firm certainly wasn’t looking to change its identity.

“We don’t really want to be an exchange or a futures commission merchant, we just want to [continue being] a CTA and have some technology to make our lives easier,” says Sansbury.

But it was at this point that he also decided to get in touch with the Commodity Futures Trading Commission, which regulates derivatives trading in the US.

“We said, ‘we better check with the CFTC, just to make sure we’re not doing anything wrong.’”

Which is when events began to take a turn.

The regulator was insistent that derivatives trades conducted through a central venue bringing together buyers and sellers of swaps be done on a Sef.

“We say: ‘OK, we’ll go find a Sef where we can do these transactions,” says Sansbury, rather than incurring the regulator’s wrath.

But the firm was unable to find a Sef that met the requirements of the commodity swap market.

Although the big three interdealer brokers – Tradition, TP Icap and BGC Partners – run Sefs, as do platforms like Bloomberg, BrokerTech, MarketAxess and Tradeweb, most Sefs are primarily focused on interest rate swaps and foreign exchange transactions.

Ice has the capability to put third-party natural gas and electricity swaps through its Sef, and Platts can do the same for oil swaps, but there wasn’t a venue for other OTC commodity derivatives.

“None existed,” says Sansbury. “No-one had a place to really do bilateral commodity swaps.” He adds: “The bilateral part is important. Our customer knows the bank that they’re facing off with and vice versa.”

So Sansbury decided to build his own – which turned out to be a much larger undertaking than he and his firm had envisaged.

“Had we known how hard it was going to be, we probably never would have done it,” says Sansbury.

He likens the experience to that of a frog being placed in tepid water and slowly being heated up to boiling point, without its realising.

“We went into it a bit naively.”

Sef identified

But the CFTC had made it clear that in bringing together multiple buyers and sellers, the firm’s business would constitute a Sef.

“’We don’t care if it’s through a marketplace. We don’t care if it’s over the phone. We don’t care if it’s a chat or an email. We don’t care if you’re at lunch and you write it on a napkin,’” says Sansbury, recalling the watchdog’s message: “’What you do as a business requires those transactions to be executed on a Sef.’”

The CFTC’s decision was nothing to do with the technology that had been built, he says: “It’s because of the business we’re in.”

“They said: ‘you have many customers and you have many banks that… you do transactions with and by definition that makes you a Sef.’”

It seems regulators began to pay more attention to where and how trades were being executed after regulated venues in Europe registered their displeasure at tech providers not registering as multilateral trading facilities – the European equivalent of Sefs – even though they were offering the same types of service.

In September 2021, the CFTC issued a public notice to clarify the circumstances in which trades must be conducted on a Sef.

Had we known how hard it was going to be, we probably never would have done it
Bryan Sansbury, Aegis Hedging

The advisory note echoed the regulator’s conversation with Sansbury and encouraged CTAs and introducing brokers to “review carefully” whether they needed to register as Sefs.

The note, written by Dorothy Dewitt, director of the CFTC’s division of market oversight, states that “registration may be required if they operate a facility that meets the Sef definition, even if the facility facilitates the trading and execution only of swaps not subject to the trade execution requirement.”

The memo explains that any venue allowing “multiple-to-multiple” trading in swaps of any kind – even if those swaps are not subject to clearing requirements under Dodd Frank – must place these transactions on a Sef.

Sansbury says the potential for commodity swaps trading to migrate to Sefs is huge. He believes commodity traders could bring “hundreds of billions of dollars onto Sefs”.

“Obviously they want them there and Dodd-Frank wants more swaps on Sef,” he remarks.

He argues that the Aegis Sef application, which was filed on February 2, 2021, and approved on July 19, 2022, helped make the CFTC “more informed” about levels of swap activity still happening outside of these trading facilities.

Aegis will launch its Sef officially on September 1 and is in the process of onboarding clients and banks to the system.

“By virtue of it being open access, other commercial end-users – and, by the way, our competitors and introducing brokers – will be able to also conduct transactions on our Sef if they choose.”

The platform will be free for commercial end-users; the banks will pay a fee if their quote is accepted, and a trade executed.

“The fees are small fractions of a penny,” says Sansbury, who argues that the benefits for the banks go beyond digital execution and audit trail into the realm of trade surveillance, compliance and swap data repository reporting.

And while the company “didn’t intend to” set up the execution facility for swaps, he says “we had to do it.”

“The market needed a Sef so that it could conduct these sorts of transactions,” he says.

Sometimes self-build is the only way to go.

Editing by Louise Marshall

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