For the past 40-plus years, Richard Sandor has created some of the most successful products in the modern era of financial markets, from interest rate futures to greenhouse gas derivatives. Now he shifted his attention to small- and mid-sized banks with a new exchange platform that could transform the way in which banks lend, borrow and set interest rates for themselves.
Sandor, often called the father of financial futures for his development the first interest rate contracts in the 1970s for the Chicago Board of Trade, has partnered with the Chicago Board Options Exchange and Northern Trust Bank to create a new over-the-counter platform called the American Financial Exchange.
The new market is designed to allow banks to lend and borrow in the overnight and interbank market from one another as they do now, but on an anonymous bi-lateral platform. And with the transactions on the platform, AFX plans to create a new benchmark interest rate index called the Ameribor, of American Interbank Offered Rate, for those small and mid-tier banks.
Ultimately, Sandor believes that the platform will draw liquidity from many of the 1700 to 1800 small to mid-sized banks that currently hold more than $5 trillion in assets, and 25 percent of all US deposits.
“We created AFX to fill several needs,” Sandor said in an exclusive interview with John Lothian News. “One of the needs, or buckets, is a centralized market that was electronic, was self regulated for small to medium banks.”
“And I thought there was a crying need for a benchmark interest rate for these banks because often times their lending costs and the way interest rates move for them may not parallel the big banks,” he said. “And they could do a better job with asset liability management if their variable rate assets matched their variable rate liabilities. It would help the soundness of the banking system, and would be great for the customers. In both instances, these are the banks that create the jobs that fuel economic growth.”
With the new web-based platform, banks will be able to become members of AFX and trade with credit approved counterparties without a broker or intermediary. CBOE, a joint venture partner, will provide system support and the self-regulatory oversight for the exchange, as this platform is exempt from government oversight. Transactions on the platform will be handled and settled via Northern Trust Bank, which will transfer funds from lenders to borrowers.
“It’s simple, it’s direct and it’s transparent,” he said.
The launch of the exchange will be announced in the next two weeks. The plan is to start with an overnight market, then 30-day market and then move to weekly auctions to determine the benchmark Ameribor rate, most likely in the fourth quarter of 2015.
Shortly after launch, the Ameribor index will be compiled using transaction prices on the exchange, for daily and 30-day indexes.
“We’re going to do both,” he said. “The overnight and 30-day market may become sufficient in generating an index, or people will want a separate one. So we’ve allowed for two facilities to determine, most importantly, a market based index.”
The future for the small and mid-sized banking sector is bright, Sandor said. Given its collective size, he said it has enormous potential to improve efficiencies. Once the benchmark is established and more banks use the platform, there is potential for futures, options and swaps for the exchange.
“We all think about the large banks and forget jobs are being generated, who is lending for tractors, who is issuing variable rate mortgages in Kankakee, or Des Moines or Dallas,” he said. “That market is bigger than most countries’ banking system.”