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March 19, 2008

OTC Derivatives Volume Posing Problems

By Gregory Bresiger

The explosion in over-the-counter derivatives trading could overwhelm the timely processing and settlement procedures of brokerages.

That's what a Depository Trust & Clearing Corp. (DTCC) executive recently said in a published report in Hedgeweek.

Frank De Maria, managing director of business development at DTCC, says the processing OTC derivative infrastructure is still in a relatively early stage.

"In an environment where OTC derivative trading is growing in popularity," De Maria said, "market participants are focused on harnessing appropriate industry infrastructure to gain efficiency in this area." He added that how this affects the booming hedge fund industry is similar to how cash markets adopted to growing volumes some 30 years ago.

Why are OTC derivatives becoming more important?

They are important risk management tools. Indeed, for hedge funds they are key. OTC derivatives are vital because they provide deep liquidity pools. But can the clearing infrastructure cope with them?

The OTC derivatives markets are continuing to evolve, De Maria said. However, as in many fast-growing markets, the potential problem is a common one and cuts across various markets and investment products: The issue for utilities like DTCC is how the utility and its members will be able to get through a market meltdown.

A recent Celent report found that buyside firms across the world have taken note of the problem. The report found that global technology spending on OTC derivative processing would increase in the next three years or so.

Celent's prediction is that technology spending will rise from some $188 million today to $232 million by the year 2011.

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