You may have thought that setting up electronic venues for the trading of standardized forms of credit-default and interest-rate swaps was going to be tough. Or that setting up clearing services, to remove counterparty risk, was going to be difficult.
But what about simply storing the data on those transactions as they come to pass? That could be the most difficult issue.
Indeed, if you listen to a pair of potential competitors, the establishment of rival swaps data repositories could be a boon – or wreck the record-keeping behind the nascent electronic swaps trading industry.
Such is the subject of a heated debate between the CME Group, known for its Chicago Mercantile Exchange (CME), and the Depository Trust & Clearing Corp (DTCC).
The CME Group operates the world’s largest marketplace for futures, options and other derivative securities. Included in its operations are businesses that act as central clearing units for those securities. Among its ambitions: Build up its clearing services for interest-rate and credit-default swaps, in the wake of the 2010 Dodd-Frank Wall Street Reform Act.
DTCC operates the stock trading industry’s clearing and settlement utility. And in September, it got approval from the Commodity Futures Trading Commission (CFTC) to set up a repository for details of trading. The trading will take place on the electronic venues mandated by the Dodd-Frank Act for completing transactions in standardized swaps. On December 31, its repository began accepting data from swap dealers.
Herein lies the rub.
The CME in November also sought approval from the CFTC to operate a swaps data repository, which is now in operation.
DTCC contends that brokerages are ready to use its swaps data repository (SDR), but CME attempts to use this data could result in inaccurate reporting, tying arrangements and systemic problems.
Trading firms can use both the same Derivatives Clearing Organization (DCO) and Swaps Data Repository (SDR), if they so choose. CME will operate both.
DTCC officials claim CME officials are using mandatory reporting requirements as a cover for a new rule, Rule 1001, that the CME has submitted for approval to the CFTC.
That rule says:
“[f]or all swaps cleared by the Clearing House, and resulting positions, creation and continuation data shall be reported to CME’s swap data repository for purposes of complying with applicable CFTC rules governing the regulatory reporting of swaps. Upon the request of a counterparty to a swap cleared at the Clearing House, the Clearing House shall provide the same creation and continuation data to a swap data repository selected by the counterparty as the Clearing House provided to CME’s swap data repository under the preceding sentence[.]”
The DTCC says that rule requires CME clients to use its repository. And that tie-in will siphon away business from its own repository, DTCC officials claim.
DTCC officials argue that the CFTC, in approving Rule 1001, is ignoring “core statutory principles” in the Commodity Exchange Act.
These principles require each derivatives clearing organization to be objective, publicly disclose information, permit fair and open access, DTCC General Counsel Larry Thompson contends, in a filing with the CFTC.
“The principle of fair and open access is violated if a DCO member or participant is unable to use a clearing platform without ceding to the clearer the right to dictate how the member or participant carries on unrelated business and compliance activities,” Thompson wrote in a November 20 letter to the CFTC.
“But that,” he warned, “is exactly what CME’s proposed Rule 1001 would accomplish.”
DTCC is “misreading” securities rules and laws to protect its own reporting interests, CME officials say.
Rule 1001 is designed to comply with laws and rules covering swaps reporting – that specifically require clearing organizations to be in control of information about the trades they handle.
In a December 6 filing with the CFTC, CME contends that the CFTC rules require all derivatives clearing organizations to maintain “all activities related to its business as a DCO, including information about what it clears and provide all information to the CFTC upon request,” according to Tim Elliott, executive director and associate general counsel for CME Group.
DTCC contends CME’s move will stop centralization of swaps information, in part because copies of trade reports will have to be sent to multiple repositories and then, in some fashion, combined and organized for further analysis.
DTCC officials argue that Rule 1001 violates the spirit if not the substance of the Dodd-Frank Act and other financial industry reforms. These reforms and rules are designed to improve the ability of firms and regulators to calculate counterparties’ exposures to the collapse of firms they’re dealing with and the overall risks mounting in markets.
“Rule 1001 is consistent with the current practice of other swap clearing DCOs to select the SPR to which they will report cleared swap data, rather than leaving that selection to a third party,” Elliott wrote.
DTCC says the operating of multiple repositories itself, though, poses a risk.
“Such risk arises from forcing large, systemically important institutions to send their mandated trade reporting obligations to multiple repositories against their will and contrary to the best internal control processes for ensuring accurate and complete reporting,” according to DTCC’s Thompson.
Here’s how DTCC says Rule 1001 will create reporting problems.
Say a Japanese and a European firm use an American clearinghouse, such as CME. Each of the parties to the trade will have multiple reporting requirements under Rule 1001.
“Bad things can quickly happen because you can get triple reporting making the market’s risk exposure unclear thus you have inaccurate information going out to the public,” says Peter Axilrod, head of strategy and business development for DTCC.
“Never being able to rely on accurate information could cause adverse market reactions that would make life very difficult for policy makers during times of market stress, potentially causing a stressed market to develop into a full-blown crisis,” Axilrod says.
And centralization of swaps data reports is vital, he adds. In the DTCC case, that would ensure, in that example, that market participants can obtain accurate information from a non-profit source.
A CME spokesman, who declined to be quoted by name, dismissed this. “Making a second copy of data and housing it in another place within the same organization cannot increase risk.”
The CME spokesman said the DTCC’s compliant should be with Congress, not with the exchange. “Congress refused to grant them a monopoly. Congress wanted competing SDRs,” he said.
“No one is forcing anyone to use our services,” added Anita Liskey, managing director corporate marketing and communication for CME.
Still, DTCC officials claim the market already has chosen them.
Since the market crisis of 2008, all G-20 countries have agreed that a central trade repository makes sense, Axilrod says. So the biggest players, he adds, are in testing to use DTCC’s repository, partly because the utility isn’t trying to turn the information into profits.
Axilrod declined to say which firms support DTCC in its dispute with CME. Still, he said these unspecified firms would file comment letters with the CFTC soon. The letters will back the DTCC’s interpretation of the rules, he predicted.
Liskey, the spokeswoman for CME, charged that DTCC is “spinning the issue for its advantage.”
In a letter recently sent to the CFTC, Elliott, argues that “Copying an existing file and sending it to another registered entity within CME—in this case, CME’s SDR per CME Rule 1001—does not trigger the kind of dire consequences that DTCC seems to fear.”
–Tom Steinert-Threlkeld contributed to this article.
