There is much debate on the proposed reforms to the over-the-counter (OTC) derivatives market—a market worth an estimated $708 trillion. For many, the main question is whether rules for Swap Exchange Facilities (SEFs) or Organised Trading Facilities (OTFs) will adversely affect liquidity and flexibility in the marketplace. It’s a valid question. However, Accenture believes that market players must not lose sight of the opportunities that exist for differentiation in the new environment.
Background: SEFs and OTFs
Industry analysis shows that the electronic OTC derivatives market will result in tighter spreads, higher volumes and lower nominal average cost per ticket. Accenture believes that the leaders in such an environment will be the ones that offer a broad choice of products, attract large numbers of market makers—and, critically, have real-time capabilities to stream prices, submit orders and reply to quote requests.
Furthermore, we expect that the new regulatory environment will drive the emergence of two new models capable of SEF trading: the trading model and the agency model.
The trading model
In the trading model, both buy- and sell-side firms submit orders directly to the SEFs, creating opportunities for new trading strategies, more transparent pricing and direct market access. Traders will be primarily concerned with margining, but the complexity and costs of maintaining a position create opportunities for innovative trading strategies. The trading model is best suited for companies with business models that are suitable for flow markets: Flow Monsters or Product Specialists.
The agency model
In the agency model, the sell-side offers strategic value-added executing broker services to their existing OTC clients, in an attempt to retain those relationships. The agency model hinges on the expectation of tighter spreads and greater price transparency, such that market leaders will be those that can offer their clients access to a wide range of liquidity on a single platform, typically through robust price aggregation across multiple execution venues.
Accenture believes that market players should explore how both models can enable them to provide value-added services and create a competitive advantage. However, emerging business models are not the only consideration for creating differentiation in the new environment. Next week, I will discuss how technology infrastructure can be a differentiator.
To learn more, download The OTC Derivatives Market: Achieving High Performance in the New Regulatory Regime (pdf; opens in a new window).