SwapClear is a global clearing service for over-the-counter (OTC) interest rate swaps run by LCH.Clearnet Ltd. According to the company, SwapClear currently clears more than 40 percent of the interest rate swap market, representing trades with a total notional principal of $252 trillion. Head of sales and marketing in the U.S. for SwapClear, Floyd Converse, fielded some questions from John Lothian News senior editor and producer Christine Nielsen.
Q: Please tell me a little about the U.S. SwapClear FCM service. What is the goal of that service?
A: We are excited about the announcement and launch of our FCM model for U.S. clients. This service will allow U.S. buy-side clients to clear OTC derivatives with the most experienced global interest rate derivative clearer and in full compliance with U.S. rules and regulations. The main goals of the services are to provide clients with reduced counterparty risk, default protection, portability of collateral and positions as well as proven default management expertise in OTC derivatives.
Q: Who do you see as your main competition in this area? Why?
A: We anticipate there being fierce competition in this area. There are several strong competitors, but we feel there are three main factors that put us in an excellent position. First, while OTC derivative clearing will be new for U.S. clients, we have been clearing OTC derivatives since 1999. We currently have a strong interbank business with over USD 250 trillion notional and 850,000 trades outstanding.
Also, we have a proven track record. In 2008, we managed the Lehman Brothers default with no loss to any of the market participants. This involved successfully closing out over 66,000 trades ($9 trillion notional) without any external financial assistance and the return of excess collateral. Second, we offer the most extensive product mix that includes OIS swaps, flexible payment and maturity dates, flexible LIBOR indices as well as 14 currencies, with six more in the pipeline. We are keen to expand this further, and in response to demand from U.S. regional banks for clearing for amortizing swaps, we are planning on launching this service later this year. Finally, we have demonstrated commitment to the business and the U.S. client base. Our FCM offering was launched after extensive consultation with clients and they continue to be involved in the ongoing development of our service, be it for product developments or service enhancements. In order to serve them better, we are expanding our NY office in all areas: sales and marketing, product and risk management and middle and back office.
Q: How would you characterize the playing field right now in the regulated OTC space?
A: Competition is set to increase as more banks look to expand in the rates business over the next few years. Another interesting development since Lehman has been the increased move toward more plain vanilla products and a fall in the number of exotic and leveraged deals. By the end of the year we expect SwapClear to be able to clear approximately 90 percent of all plain vanilla trades globally.
Q: LCH.Clearnet was first with the use of OIS rate curves to discount IRS. Is there an advantage to being the first to introduce in the current environment for these products?
A: We feel there is a huge first-mover advantage to certain parts of this business. Introducing OIS discounting was important because, in some currencies, the market had moved toward OIS and away from LIBOR. The move enabled us to serve this market demand and also ensured our portfolio valuations were more accurate and our risk management was more robust.
Q: How did you come to LCH.Clearnet? What is your background?
A: Most of my career has been spent at large dealers in the sales, marketing and structuring of OTC interest rate and currency derivatives. I was looking at some ISDA stats the other day and the notional amount outstanding of all trades my first year in the business was just under 900 billion. By the end of 2009, it was approximately 425 trillion. As the market moves forward, clearing and transparency seem to be the next step. This role is exciting as I get to continue to be involved in OTC derivatives as well as work in a powerful organization that can help shape the future of the markets.
Q: What do you feel will be the next step in the evolution of the regulated OTC market? Why?
A: Clearing and transparency are themes that will dominate the institutional OTC rates business over the next couple of years. Many clients, swaps dealers and FCMs are adjusting their systems, models and business practices in anticipation of the regulation currently being written as a result of the Dodd-Frank Act. Our SwapClear service is well positioned to take advantage of this evolution.
Q: How might a hike in interest rates impact the use of a regulated OTC market?
A: Hopefully a rate hike would be the result of stronger economic growth. If that is the case activity in OTC derivatives should increase as most clients would see balance sheets expanding. For example, as banks see loan demand increase, usage of amortizing swaps would be an important part of their business. This is one reason why we will have the capability to clear these structures later this year.
Q: What can we expect to see from LCH.Clearnet going forward? What will be some areas of focus for the OTC space?
A: LCH.Clearnet will continue to grow and expand products and services in the U.S. and around the globe. We are looking to clear other OTC products in the U.S .and considering establishing clearing businesses in other countries. The next few years are going to be very exciting in the clearing business. LCH.Clearnet, with its unique breadth of expertise, is well positioned to be very competitive.