Rule Changes Will Accelerate Innovation in Swaps Trading

Proposed changes to swaps regulations could fuel a boom in innovation and electronic trading, and increase the average daily notional volume traded on swap-execution facilities (SEFs) by as much as 20%, according to a new report from Greenwich Associates.

Since they were put into force in 2013, Dodd-Frank-inspired swap execution facilities (SEF) rules were seen by swaps dealers, investors, SEFs, and nearly all other market participants as overly prescriptive. These concerns have been at least partially borne out by the fact that the share of institutional interest-rate-swap trading volume executed electronically has been stuck at 60% for the four years since the SEF rules took effect.

With Chairman Christopher Giancarlo at the CFTC, it appears regulators are prepared to offer relief by adopting a lighter touch. Although the CFTC is examining all aspects of the market, the recently proposed SEF changes are likely to be particularly impactful—especially in light of major innovations in electronic trading since the rules were written back in 2011. The proposed increase in flexibility for SEFs will enable them to offer trading functionality and protocols that they and their clients believe are best for liquidity formation—a positive move back to free market competition.

“Although the post-Dodd-Frank swaps market is a much improved version of its former self, other markets with less prescriptive rules have seen a much larger influx of transformative technology,” says Kevin McPartland, Head of Research for Greenwich Associates Market Structure and Technology and author of SEF Rule Changes to Accelerate Innovation for Swaps Trading. “The recalibration of rules that is currently in progress is the right step to the next stage of innovation for swaps trading.”

However, regulators must remain diligent to ensure the price transparency gained over the past five years is not eroded amid the search for more efficient markets. “A big move toward more voice trading within the limits of these proposals could hurt pre-trade price transparency, price competition and market access for all but the largest players,” says Kevin McPartland.