While the leaves have started to fall and the season is changing – at least in the UK – nothing is falling here at CurveGlobal with record volumes in September. That’s great for us but more importantly it’s excellent news for you, as it reflects the better pricing we are providing clients.
On this point, while we’ve spoken before about how CurveGlobal offers you competition, potential for margin optimisation, reduced transaction costs and free market data, we're aware that these benefits are second order. What you really care about is what impacts your trading P&L or fund performance. It's here, with excellent pricing, that CurveGlobal is really making an impact. Have a look for yourself.
As Ralph explains in more detail below in his article on Best Execution, we have been conducting our own pricing analysis using summary data from LiquidMetrix WorkStation, an independent aggregator of market data. The results showed that, in the 12 months since going live, CurveGlobal products are equal best price or better the vast majority of the time.
What's equally as interesting is the block trading that occurred this month. We've even had a couple of market users who have traded at a mid-market price. So not only are CurveGlobal products equal best price or better on the LSEDM order book most of the time, users have the ability to trade at tight fractional prices to get even better pricing off order book.
Pulling this together is good reading for option desks – where Convexity Adjustment is a painful choice of 'run the risk' or 'pay for the bid/offer'. In our Trading Concepts piece below, we show how trading at a fractional price with significantly lower margin carry costs can potentially reduce risks.
Finally, thanks to everyone who came to our Impact of Capital Rules on Derivatives Trading conference at LSEG on Wednesday. It was a great opportunity to drill down on the real cost of capital under the existing market structure. We have an obvious bias towards the need for change in the derivatives landscape, so it was good to hear market participants weigh in on the discussion and support this. Fortunately for CurveGlobal, we're seeing theory turn to action, and a shift in market sentiment is gradually moving volumes our way.
Let's be clear. In my opinion, the benefits you get with CurveGlobal products on fees and margin only matter if the price is right. Eventually we can imagine a world where the margin impacts become pricing drivers but for now, we are best price or tied the majority of the time, have lower fees and offer potential margin saving opportunities. Rightly, we feel proud of this achievement and the benefits that go with it.
But not only do firms have to deliver Best Execution, they also, under MiFID II Article 27 (4) have to “establish and implement effective arrangements” for complying with and monitoring Best Execution. This requirement could arguably be the most difficult under Best Execution and has been challenging for some firms in the past.
The FCA found, in its thematic review on Best Execution in 2014, that many firms continued to rely on “single execution venues or on their current execution venue selection without any evidence to justify the decision or to evaluate whether market conditions were changing”. For more information, see the full review here.
As an example, if a client wants to take up positions in Short Term Interest Rate (STIR) futures they need to be aware that there are economically equivalent products in 3 Month Euribor® and Short Sterling Futures trading on more than one venue. Given the points made above, it seems prudent for firms that trade these products to make sure that they are actively monitoring the competing markets if not actually trading on them.
That means that firms need to be able to demonstrate that they have taken into consideration all alternate trading venues, including new ones.
What does the legal and technical documentation say about Best Execution? MiFID II Article 27 (1) defines Best Execution as the obligation on firms to “take all sufficient steps to obtain . . . the best possible result for their clients taking into account price, costs, speed, likelihood of execution and settlement, size, nature or any other consideration relevant to the execution of the order”. And under MiFID II Article 27 (4), they also have to “establish and implement effective arrangements” for complying with and monitoring Best Execution.
So, how do the CurveGlobal products stand up with regard to the measures highlighted?
In the September 2017 Three Month Euribor® Future, CurveGlobal products accounted for 2.97% of volumes traded in the week ending September 22. Also, the best prices available in CurveGlobal products trading on the LSEDM central limit order book were equal to, or better than, the best prices available on the other venues for 92% of the trading day (07:00 to settlement time at 16:15), and the average volume at the top of the book was more than 2.5 times the CurveGlobal minimum block trade threshold for that market.
According to our analysis of LiquidMetrix summary data, in the Euribor® White months, over 90% of the time the best price could be found in CurveGlobal products. In the Reds 10-25% of the time the best price was in the CurveGlobal product on its own and in the Greens that rose to 20-30%.
So, we pass the first Best Execution measure, price. What about other measures?
CurveGlobal products combined headline trade and clearing fees are less than those of the main competitor for each product, and CurveGlobal has no Market Data fees.
The LSEDM trading platform for CurveGlobal products boasts round trip times in line with other exchanges. After that, speed is down to a firm’s own connectivity solution.
Likelihood of execution? And trade size? ✓
Regular readers of our newsletter know that long-standing venues suffer from order splitting and order inflation. Issues that do not affect new venues to anything like the same degree. As a result, trading in CurveGlobal products will almost always give participants resting orders in the market a better fill, both in terms of likelihood of participating when a price level is hit, and size.
We conducted analysis of the markets, and it showed that the top of book depth in CurveGlobal products is consistently between 10-25% of the available liquidity.
So while we can make the argument about MiFID II and Article 27 on price alone, when combined with costs, speed, likelihood of execution and size, not to mention portfolio margining, CurveGlobal products present a really attractive alternative in a MiFID II trading environment.
Paul Lynch, CEO of itarle AG, believes the advantages enjoyed by new entrants like CurveGlobal are already compelling. In his view "The 'new' venues that are likely to evolve as the winners from MiFID II are probably already live, albeit with low volumes and / or low open interest. It is, therefore, vital to monitor monthly trends on these emerging platforms and to ensure that connectivity is in place should end clients want access to capture potential price improvements and reduce impact cost.”
CROSS-MARGINING CAN SAVE BANKS BILLIONS, GREENWICH ASSOCIATES STUDY ASSERTS
The banking industry is potentially leaving $10 billion or more of capital on the table by failing to optimise their derivatives positions, according to the latest Greenwich Associates study. That’s because for every $100 million in initial margin saved, $30 million in capital can be conserved. While the numbers are staggering, capturing this opportunity is more straightforward.
Reducing the amount of capital that must be set aside is one priority for increasing bank profitability. Having the ability to hold positions that can benefit from portfolio margining is a key step toward that goal. Currently, the vertical silos that exist across much of the futures market prohibit the ability to effectively cross-margin all OTC and exchange-traded derivatives, the report states.
If banks and their derivative customers simply optimise their swaps and futures holdings across clearing houses, such that they can be better risk-managed and, in a default scenario, neutralised at a lower cost, this reduction in overall risk in the system justifies reducing the amount of capital required to back derivatives trading.
The conclusions of the research support the objectives of CurveGlobal to drive down the cost and increase the efficiency of the world’s derivatives markets. Demand for trading CurveGlobal products is growing fast: the first 100,000 lots traded took 41 business days; the most recent 100,000 lots were executed in 8 days. CurveGlobal are also best price or tied 92.7% of the time.
To receive a copy of the Greenwich Associates research, contact Richard Walker at firstname.lastname@example.org.
TRADING CONCEPTS: Futures/FRA Gamma Correction
As most practitioners are aware, a gamma or convexity bias exists between the futures market and FRAs. Futures contracts have a simple linear payoff, whereas the FRA (with a discounted payoff) will be convex (including the discount rate in the denominator of the payoff calculation).
Sterling contracts are valued on the following basis:
- £STIR future valuation (Libor-Fwd3M)* 10000*£12.50p
- 3x6 GBP FRA valuation ((Fwd3M-Libor)* Notional*90/360)/(1+Libor*90/360)
FRAs are valued as follows:
- Fwd3M is the 3M forward rate
- Libor is the Exchange Delivery Settlement Price (or Libor at the fixing of the FRA)
And the Short Sterling tick value per basis point is £12.50p.
The valuations of the two products are similar, as can be seen from the equations above. They are both dependent on the difference between the forward/implied rate and the fixing of Libor at the end of the FRA or on the EDSP date, however the FRA valuation includes the Libor fixing in the denominator. At low rates this difference is clearly small, but for large positions it may grow. In practice it means that the future must trade at a higher price than the equivalent FRA. How much higher will be driven by both the maturity of the contract and volatility in interest rates.
If the two legs are dealt with different counterparties, in practical terms this means cleared at two different CCPs, then two sets of margin would be needed to support the trade.
If we look at an analogous Euro position (€25 per tick, opposed to £12.50, and a notional contract size of €1M as opposed to £500k) then the equivalent 1000 lot trade table would be:
The margin required for the futures position at the alternative venue would be approximately €137,500 and the corresponding margin call for the FRA at SwapClear would be around €841,250 – a combined total of €978,750. If instead the Euribor® trade was executed in CurveGlobal products and cleared at LCH SwapClear in the same account as the FRA, then the total margin required would be only €361,000 – only 36% of the aggregate amount, a potential saving of €617,750.
Examples provided for illustrative non-reliance purposes only, potential benefits indicated are approximate and may not be realised.
Emily Grimshaw, Business Development and Marketing Manager
Emily began her career in financial markets over 20 years ago, joining Cantor Fitzgerald as a junior broker in Emerging Market Brady Bonds. After leaving Cantor in 1999, Emily went on to become an equity sales assistant for the trading desk at Raymond James and Wachovia Bank. Emily then returned to broking in 2002, covering a multitude of asset classes for market leading interdealer brokers such as Tullet Prebon, Tradition, GFI Group, BGC, CreditEx, and Vantage Capital Markets. During her time at GFI Group, Emily worked in in Switzerland, broking Czech interest rate swaps and local currency bonds.
In May 2016, Emily moved across from the OTC swap market into exchange traded derivatives, as a client relationship manager for the newly rebranded start up London Derivatives Exchange.
Emily lives in West Sussex, is a Dressage enthusiast, and is working towards an Investment Compliance Diploma.
To find out more about CurveGlobal or to offer suggestions on improving this newsletter, contact us at +44 20 7797 1055 or email@example.com.