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’15 Half Year Update with Alex McDonald, WMBA May 2015 Julia:
Hello and welcome to a DerivSource podcast. I’m Julia Schieffer, the Founder and
Editor of DerivSource.com.
We are six months in to 2015 already, and regulation, unsurprisingly, continues to
be a major theme.
In this DerivSource podcast we speak to Alex McDonald, CEO, of the Wholesale
Markets Brokers' Association or WMBA who provides an update on the first half of
2015 in terms of the issues that have really dominated this year. Alex also offers his
views on what is likely be the focus for the next 6 months.
Specifically in this interview we talk about the changing interdealer model, the new
FX benchmarks being debated and of course the continuing lack of harmonisation
between the US and Europe over swaps legislation.
Here is, DerivSource reporter, Lynn Strongin Dodds, speaking to Alex McDonald
from the WMBA.
Lynn:
Hi, this is Lynn Strongin Dodds, I’m reporting for DerivSource. We’re here with Alex
McDonald, CEO, of the Wholesale Markets Brokers’ Association, talking about the
first half of this year.
Thank you for joining us. The first question is I read that you said capital and
liquidity will be the major issues this year as they were in the preceding years. Has
this been the case so far in 2015 and how have these issues developed since the
start of the year?
Alex:
Capital and liquidity are always the big issues, but in 2015 so far, they have indeed come
to the fore, perhaps more than we would have thought. The market suffered a liquidity
drought at the start of January when the SNB removed the floor to the Euro/Swiss
exchange rate causing unprecedented volatility in that market. That’s proved the precursor
to a very volatile period in fixed income: where we’ve since seen a correlation of asset
volatility, with bond markets initially being highly volatile with negative yields and then
rebounding and the markets reaching out for liquidity and price information that is not
there.
Why is that important to WMBA members as Inter-Dealer brokers (IDBs) operating trading
venues? Well, that’s because in responding to the various rule makings, and the impact of
those changes, both in terms of presenting liquidity in new venues under Dodd Frank and
the EU rules, plus the impact on those venues particularly in terms of capital and liquidity,
has meant that market participants have been desperately looking for access to global
liquidity pools, rather than segmented markets, and the corresponding dislocations of
liquidity.
So, we have presented these as demonstration to the regulators to illustrate the point, “be
careful what you wish for in turning liquidity into a very non-latent, electronic product,
because at the end of the day people tend to restrict their offering of liquidity, the more that
you formalize the venues.
Lynn:
Just wondering why operational risk and key solvency did not come to the fore as
you expected?
Alex:
The market has been pre-occupied by prices and yields against a backdrop of sovereign
deficits and insolvency on one hand and rebuilding banking balance sheets on the other.
In that regard, we have all been through the mill somewhat in prior years, and therefore
the central-banks have said there will be money via the Quantitative Easing route. The
amount of capital in the industry has been raised in what the regulators call ‘regulatory
repair’ with a commensurate lowering the key leverage ratios within the financial sector.
Lynn:
The next question deals with the role of the inter dealer broker. How has it changed
over the past few years and how do you see it evolving in 2015 and beyond?
- Page 1 of 4 - Copyright for this document is retained by DerivSource and the document or any excerpts should not be republished or distributed without written notice of Julia Schieffer, of DerivSource.com. For further information please contact Julia Schieffer at [email protected] Half Year Update with Alex McDonald, WMBA May 2015 Alex:
Since the IDBs are essentially very global in their daily business, and their clients’ base, so
their role is arranging and aggregating a global liquidity pool. How has that changed and
undergoing more change?
The business model will change as this client base changes, in both activity and location.
There is a distinct move within the banking industry both away from acting as principal to
acting as agent and towards subsidiarisation. Both of these changes demand more access
to platforms.
So the role of the IDB has been evolving from an arranger or introducer who effectively
charges a fee for finding liquidity, and matching counterparties bilaterally, towards
becoming multilateral execution venues. This has been exacerbated by the regulations
where-by SEFs, MTFs and the future OTFs are mandated or endorsed as execution
venues, therefore signaling the required role of the IDB. In becoming the location of the
execution, as opposed to simply arranging the trade by passing the names and letting the
two counterparties confirm trades bilaterally in a classic OTC manner, so the further
obligations around transparency, conduct, access, affirmation and reporting become more
explicit. This also includes the connectivity to the post-trade infrastructures and the straight
through processing to either CCPs or CSDs.
So this is the transition of OTC business into organised and regulated venues, such as
SEFs or the MiFID EU equivalents, or under various conduct requirements that are coming
in the Asian countries.
Lynn:
The next question deals with regulation, looking at EMIR and MiFID, the impact that
will have on the markets this year as market participants prepare for compliance
and any unintended consequences of these new regulations?
Alex:
In Europe our focus has been on the key market structure changes of EMIR, MiFID, and
REMIT, which deals with the power and gas markets. Additionally further legislations with
concomitant effects on markets have been important to us such as increased capital and
liquidity constraints in the CRR/CRD4 and other capital implications on cleared and
uncleared margin and collateral in the EU. I would compare the current impact to a duck
on a pond; the teeth of EMIR from the market infrastructure perspective (because the
infrastructures don’t have the reporting requirements) are yet to bite with the clearing
requirements, and MiFID, of course, is due to come into effect at the start of 2017. So, the
impact so far has been relatively little in reality, but big in terms of preparation, in terms of
lobbying, in terms of firms re-organising themselves to move towards an agency and
platform or venue trading.
Perhaps one of the big impacts has been locational, with market participants’ better
understanding what regime they will be subjected to and asking regulators for more
clarification around the substituted compliance regime, so they can make strategic
decisions about where to offer services and who to trade with.
This rearrangement has been particularly salient for IDBs who have one liquidity pool from
trading on SEFs, and further sets of the same products trading under MiFID and EMIR and
a further set traded between counterparties that are neither EU nor US persons and who
will not be subject to these regulations. As a result, there has been a lot of relocation, of
reporting and post-trading capabilities, which has led to a long debate about how you
globally identify products, legal entities, and transactions and then report them without
error or duplication.
It has been a little like the serene duck which is paddling its flippers hard below the
surface.
www.derivsource.com - Page 2 of 4 - Copyright for this document is retained by DerivSource and the document or any excerpts should not be republished or distributed without written notice of Julia Schieffer, of DerivSource.com. For further information please contact Julia Schieffer at [email protected] Half Year Update with Alex McDonald, WMBA May 2015 Lynn:
The lack of harmonisation topped the agenda at the ISDA conference in Canada. Do
you think progress is being made on this front between the US and Europe? What
changes would you like to see take place?
Alex:
There is much talk, but still very little actual harmonisation in reality, as we saw last week
when Tim Massad was in Europe discussing the issue of CCP recognition. Under the
surface however, there’s been a great change of mindset over the last 6 months. A
wholesale change of Commissioners at the CFTC has led to a different attitude towards
deference, substituted compliance, and cross-border recognition. That has been replicated
in Europe since last September and will be amplified in July when a further changeover of
key staff takes place in the European Commission.
We will find sets of regulation implementing staff either side of the Atlantic who are working
according to the G20 global growth agenda. This has been particularly evident in Europe
with a newly established Directorate-General Financial Stability, Financial Services and
Capital Markets Union (DG FISMA) set up to focus on the Capital Markets Union.
So we are going to have a focus on conciliation, on deference, and on getting the global
liquidity pool together again, because the costs of global liquidity under the Basel
implementation, and higher capital requirements will put a lot of emphasis on making that
liquidity pool work as well as it can. It’s now a question of making it happen. To paraphrase
ISDA’s Scott O’Malia who expects that by Q3 this year, we’ll start to get CCP deference
and recognition; and from there, what’s important to the WMBA members is that there is
trading venue recognition in order to conjoin liquidity pools across different regimes to offer
efficient access to pricing and risk transfer in wholesale markets which are essentially
global.
Lynn:
The last question deals with the major challenges and opportunities that you see for
your members as the year unfolds? Are there any other issues that we haven’t
touched upon that the WMBA is focused on for 2015? And also looking at the
debate needed over the benchmarks SONIA and RONIA?
Alex:
At this point in time, all of the key trade associations are focused on Capital Markets
Union, because the underlying message of CMU is ‘less sand in the wheels’, more
liquidity, better regulation. However, there are inherent conflicts between some of the
capital and conduct regulations such as MiFID and EMIR and securities financing
transactions regulation (SFTR) and short selling (SSR) which seemed designed to throw
‘sand in the wheels’ of what was considered an over-leveraged and speculative market
which had too little transparency.
The focus now is to remove the frictions and provide simpler, easier access to funding for
all market participants.
This is why the CMU lens has become so important not only for EU rejuvenation, but also
for the City.
As 2015 unfolds, there are other milestones of importance to WMBA members. One is the
conduct and market effectiveness code stemming from the Fair and Effective Markets
Review (FEMR) in June. This, of course, resonates with the CMU as well.
So the strong focus for this year is going to be on making markets work across borders
and for everybody, and that’s inclusive of conduct as well as capital and liquidity.
The second is the evolution of the market structure legislations and also the new
benchmark regulations. In the UK, the specified benchmarks have already become law,
whilst in the EU we are going to get the overarching benchmark regulation moving into
trialogue in early summer and finalising through the remainder of this year. It seems less
likely that we will see the vaunted CCP resolution legislation being brought forward from
the EU Commission before the end of the year.
www.derivsource.com - Page 3 of 4 - Copyright for this document is retained by DerivSource and the document or any excerpts should not be republished or distributed without written notice of Julia Schieffer, of DerivSource.com. For further information please contact Julia Schieffer at [email protected] Half Year Update with Alex McDonald, WMBA May 2015 The last area of change is the relationship between the UK and the EU. Given that the UK
hosts the lion’s share of wholesale markets in Europe and perhaps globally, this evolving
relationship after the UK election will be paramount to the way that the locational issues for
markets in the City evolve. Clearly, there are other factors, particularly the way that the
capital and liquidity requirements get brought to bear and the substituted compliance
issues between the UK and the rest of the world
Lynn:
It sounds like you’re going to have your hands full. I’d like to thank you very much
for your thoughts this morning.
Julia:
Thank you for listening to this DerivSource podcast.
If you would like more information on this topic, including the full transcript, please
go to our Podcast Notes page, available on DerivSource.com or via our app.
Thank you for listening. Join us next time.
Copyright for this document is retained by DerivSource and this document or any excerpts should not be
republished or distributed without written notice of Julia Schieffer, of DerivSource.com. For further
information please contact Julia Schieffer at [email protected] www.derivsource.com - Page 4 of 4 - Copyright for this document is retained by DerivSource and the document or any excerpts should not be republished or distributed without written notice of Julia Schieffer, of DerivSource.com. For further information please contact Julia Schieffer at [email protected]