A fragmented market with unfinished rules – but reporting deadline looms

All together now?


Dealers have half of what they wanted on swap data reporting. Top of the wish list was a single, global repository. The industry got a global repository – but not a single one. As a result, banks are now trying to work out how to cope with a market in which data is sent to multiple repositories. They are doing so in the knowledge that the US reporting deadline could arrive in a matter of months, and despite the fact that key components of the new reporting regime – the legal entity, product and swap identifiers that will be used to aggregate market data – have yet to be finalised.

It is not an easy job. “Most of us working on swaps reporting at the major dealers have been involved in large-scale change programmes for many years, but this feels different. While we have some precedent in building out the Trade Information Warehouse [for reporting over-the-counter credit default swaps], we are clearly in a new paradigm, not only in relation to the Dodd-Frank Act, but also in relation to meeting global trade reporting requirements. Collectively, the industry is making long-lasting commitments in terms of time, talent and finances to meet this new paradigm,” says Ian Speirs, executive director in investment bank operations at JP Morgan.

Reporting could have become a legal obligation in the US on July 16, but will now start 60 days after the Commodity Futures Trading Commission (CFTC) publishes much-delayed swap definition rules – if those rules arrive in early July, as some dealers expect, reporting will follow in early September. Others expect the deadline to arrive towards the end of October (see box, overleaf). Europe is some way behind, but the European Securities and Markets Authority published a consultation covering swap reporting on June 25.

The global repository is made up of the five linked warehouses run by the US-based Depository Trust & Clearing Corporation (DTCC). They cover the main OTC derivatives asset classes and are intended to allow market participants to connect to one of three regional hubs for all their reporting needs – in the Netherlands, Singapore and the US. But the DTCC faces competition from swap data repositories (SDRs) run by other firms – such as IntercontinentalExchange (Ice) in the US and Europe’s Regis-TR, owned by Spanish exchange operator Bolsas y Mercados Españoles. In addition, regulators outside the US are unwilling to rely on an overseas provider, so are building their own, domestic repositories.

This fragmentation undermines some of the appeal of the DTCC’s repository – and not just for dealers that will have to build and manage data reporting across multiple warehouses.

Most of us working on swaps reporting at the major dealers have been involved in large-scale change programmes for many years, but this feels different

“I’m not sure why the regulators don’t understand it’s going to be very complicated for them to get a consolidated view of all the swaps data if it is in multiple repositories. Otherwise, they might have to create a master repository to pull the data together,” says the head of OTC derivatives operations at one major dealer.

Which of the SDRs is used depends on whether there is a choice, and whose job it is to report transaction data. In jurisdictions such as Hong Kong, Taiwan and India, there won’t be a choice – the local, regulator-backed SDR will have to be used. In the US, the CFTC allows SDRs to compete, and leaves the choice of repository up to one of three different market participants. For swaps that are not cleared, one of the counterparties to the trade will select an SDR; for swaps that are cleared, the central counterparty makes the choice; and for cleared swaps executed on an exchange or a swap execution facility (Sef) – the new trading platforms on which standardised OTC derivatives have to be executed according to the Dodd-Frank Act – the exchange or Sef will decide. So, when Ice launches its own Sef for OTC energy and commodity trading – as it plans to do after rules have been finalised by the CFTC – it will report to its associated SDR, Ice Trade Vault. On June 28, Ice announced it was the first firm to have received provisional approval from the CFTC to operate as an SDR.

As a result, international dealers accept they will end up using a number of different SDRs. “We want to be sure all our trades have been reported to an SDR even where we are not the reporting counterparty. We will need to be integrated with every SDR so we can tie back internally where every trade is reported, and if the CFTC comes to talk to us about our trades we know they have been reported and which SDR they are in,” says JP Morgan’s Speirs.

That is going to make reporting more expensive – banks say they will need to develop parallel infrastructures and control environments for the various repositories – and it also seems to fly in the face of the CFTC’s attempts to protect the integrity of OTC market data, says George Handjinicolaou, deputy chief executive officer and head of Europe, Middle East and Africa at the International Swaps and Derivatives Association. In its final rules on SDRs, issued in January, the agency states that once a repository has been selected as the reporting venue for a particular trade, the data must remain in that SDR – a stipulation designed to avoid double-counting, or misreporting. But if the CFTC also allows competing SDRs, it creates operational risk that could result in trades being mistakenly reported to two or more venues, he warns.

That horse has already bolted. Banks say they are resigned to some degree of fragmentation, but hope the DTCC’s global trade repository (GTR) will dominate in the major markets and, where it does not, that it can act as an agent for a local repository, thereby allowing participants to report only once.

The primary site of the GTR is in the US, with linked data centres in the Netherlands and Singapore. The DTCC aims to run a single set of code across the three data centres and enable market participants to connect to just one centre for reporting across all jurisdictions. However, there will be some tailoring of the code in each jurisdiction to meet local regulatory requirements, including rules about access to data.

“Each data centre will sit in a legal jurisdiction that has laws about privacy and access to data. What we are trying to do by having data centres in the US, Europe and Asia is balance the interests of the various parties and not have the GTR exposed to just one jurisdiction and its laws,” says Stewart Macbeth, head of the DTCC’s OTC derivatives business.

Dealers would like to see the GTR as the hub in a hub-and-spoke model, where participants can report to one repository and have the data distributed and accessible across the network as appropriate. That would simplify reporting for participants, because they could report to just one SDR, which would act as an agent – passing the data on to others where required – as well as help achieve a single, integrated view of all swaps data in the hub. Taiwan presents a particular problem in this scheme, because it is not only setting up its own repository, but is also using a proprietary data format. On the other hand, the Taiwanese regulator is asking for a fairly simple set of data – a daily feed of open positions – which is more akin to what dealers already report under voluntary arrangements than the layers of additional information, such as the legal entity identifiers (LEIs), unique product identifiers (UPIs) and unique swap identifiers (USIs) now required by the CFTC, points out the head of operations at a major US dealer.

The DTCC downplays concerns about fragmentation, although that didn’t stop it arguing against the creation of a domestic Canadian repository during the country’s swap reporting consultation last year.

“We wouldn’t characterise interoperability with other SDRs as an issue,” says Macbeth. “Some countries are moving ahead on their own, but there tends to be less volume in some of those countries. We are trying to cover the major financial markets. Also, the countries setting up their own repositories seem to be open to dialogue.” This dialogue is most advanced with Hong Kong, where the DTCC has aligned the data it receives with the data the Hong Kong Monetary Authority (HKMA) wants to receive, so it could act as a reporting agent to the authority’s SDR should the authority allow it. If this is the case, a foreign bank active in the Hong Kong market that uses the GTR as its primary repository could still report to the GTR and have its data automatically passed on to the HKMA’s SDR. Dialogue on these matters is less advanced with Taiwan and India, says Macbeth.

Fragmentation of repositories is just one of the issues market participants face. Time pressure is another, stemming primarily from the various elements of Title VII of the Dodd-Frank Act, which covers OTC clearing and execution rules as well as reporting. “The timeline for clarifying the reporting rules, publishing them, and interpreting the operational and technical mechanics around compliance is very compressed, and it’s just one of many initiatives of Title VII,” says Mark Matthews, chief operating officer of markets clearing at Deutsche Bank.

Other dealers also highlight the challenges involved in interpreting and implementing the rules. “At first glance, the CFTC’s swaps reporting rules appeared detailed, and they are, but this is a regulator whose background isn’t in the OTC derivatives market and there are areas where the rules don’t match existing trade workflow and other areas where there are gaps,” says the managing director of operations at a major US dealer. Those gaps are being addressed through ongoing dialogue with the CFTC, dealers say, which has enabled the biggest banks to understand what the regulator is looking for, and given the industry a chance to sketch out the best plan of action.

The go-live date for reporting will not be the end of this effort. Many in the industry had assumed Sefs would be introduced before the swaps reporting rules – a more logical sequence, they say, given that it is the responsibility of Sefs to report trades to an SDR. The CFTC published draft rules on Sefs at the start of 2011, but final rules are still pending and dealers expect they will require modifications to reporting processes.

“We have to build into our planning and development the knowledge that things are going to change. Even if the swaps reporting rules are implemented as planned – with interim solutions defined for entity and product identifiers – we are going to learn a lot when Sefs are introduced, clearing is mandated and the markets infrastructure starts to operate in a new world order. Inevitably, we will have to change some things – which is why something like the GTR is useful because we can build around it and, while it may evolve, it is unlikely to change dramatically,” says Matthews of Deutsche Bank.

The CFTC requirement for swaps reports to include LEIs, UPIs and USIs is another area where final rules are missing. These standardised tags will allow information in an SDR to be sorted and, respectively, give regulators detail about the reporting entity, the type of product involved and the specific trade.

“The industry has proposed a UPI, but the CFTC hasn’t figured out whether or not it agrees it is a good enough UPI, so we spend a lot of time trying to work out what the CFTC wants without actually knowing,” says the managing director of operations at a major US dealer.

That’s tricky because the full purpose of the UPI isn’t clear, dealers say. “Is it to allow data aggregation, or will it go further and allow regulators to drill into detail about precisely what products have been traded for the purposes of price comparison? Those are different solutions and they have different costs to implement,” says the head of operations at a major US dealer.

Dealers also don’t know whether UPI data will be among the information included in public reporting – rather than just private reporting to regulators. Depending on what the UPI itself has to include, there is a possibility that commercially sensitive information may end up in the public domain. “The set of data fields we have to disclose in the real-time public reports are very limited, but it could be a problem if it includes a UPI that precisely describes a product – particularly as you move away from the most vanilla products,” says the head of operations at a major US dealer.

The situation is clearer for LEIs, where the Financial Stability Board (FSB) has been given responsibility for developing a global standard (see box). However, even under the FSB’s ambitious programme, official LEIs would not be available until March 2013. In the meantime, the CFTC has proposed a CFTC interim compliant identifier (CICI) to be used as a placeholder, and in March called for applications from potential providers. By mid-June, the CFTC had not picked a winner. In the absence of CICIs – and with the reporting deadline looming – dealers are preparing to use alternatives that could be mapped to the CICI or final LEI. “We are trying to avoid putting data into the GTR that is not recognisable to the DTCC – for example, our internal identifiers or a long name that would result in a huge mapping exercise when we get the standard,” says the head of OTC derivatives operations at one major dealer.

On USIs, dealers have a gloomy prognosis. “The USI is a CFTC-specified identifier. We would like it to work globally, but we may not manage that – we may have to have specific USIs for each jurisdiction,” says the managing director of operations at a major US dealer.

Despite the challenges, the major dealers, the DTCC and Ice all expect to have their technology infrastructure ready for when the CFTC swaps reporting rules come into effect. Many dealers are in the final stage of testing their credit and interest rate swaps reporting processes, while the DTCC is planning a further release of the GTR system in July to bring commodities, equities and forex into line with the latest CFTC requirements.


BOX: Reporting FAQs

What stage are the regulations at?
In the US, the Commodity Futures Trading Commission (CFTC) issued final rules on swap data record-keeping and reporting in January. In Europe, rules are being written by the European Securities and Markets Authority – it published an initial consultation paper in mid-February, containing a relatively high-level 10-page section dealing with trade repositories and reporting. A more detailed consultation was issued in late June.

Which organisations have to report?
The CFTC’s final rules require all market participants to keep records of their trades: derivatives clearing organisations (DCOs), designated contract markets (DCMs), swap execution facilities (Sefs), swap dealers, major swap participants (MSPs) and other swap counterparties that do not fall into the dealer or MSP categories.

The job of actually reporting that data depends on whether the trade is cleared or uncleared, and executed on a Sef or exchange. For the latter – expected to comprise most over-the-counter trades – the Sef or exchange will report the data and is responsible for selecting a swap data repository (SDR) to use. Those responsibilities are handed to a DCO for cleared trades not executed on a Sef or exchange – and to one of the counterparties for uncleared trades.

What information has to be reported?
The CFTC wants SDRs to contain a record of every swap traded, with the information being updated if there are changes to the “primary economic terms”. Changes to the trade need to be reflected in the SDR’s records by the end of the second business day following any amendments. For dealers, valuation data must be updated daily. For market participants that are not dealers or MSPs, valuation data can be updated on a quarterly basis – and can be provided by a DCO where the trade is cleared.

How is that information categorised?
Participants must use a unique swap identifier, a legal entity identifier and a unique product identifier. SDRs must transmit the swap data to the CFTC in an acceptable file format.

When will reporting begin?
It is staggered by entity and asset class. The first deadline – compliance date one – is the later of July 16 or 60 days after publication of the CFTC’s definitions of ‘swap’, ‘swap dealer’ and ‘major swap participant’. The agency defined the last two terms in an April 18 rule, so the reporting timeline now rests on publication of the agency’s swap definition rules – expected within a matter of weeks.

Compliance date one applies to Sefs, DCMs, DCOs, swap dealers, MSPs and SDRs for credit and interest rate swaps. Compliance date two is 90 calendar days after compliance date one, and sees the obligation extended to cover equity swaps, foreign exchange transactions and commodity swaps. Compliance date three is 90 calendar days after compliance date two, and applies reporting requirements to non-dealer and non-MSP counterparties for all asset classes.

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