ISDA timetables benchmark reform as FCA confirms ISDAfix probe
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ISDA timetables benchmark reform as FCA confirms ISDAfix probe

A response to the European Commission’s statement of objections is due in October.

The International Swaps and Derivatives Association (ISDA) finds itself fighting regulatory fires on two fronts, as it works on its response to the European Commission’s (EC) recent accusation of anti-competitive behaviour.

In July, the European regulator issued a statement of objections that alleges ISDA was part of an infringement of EU antitrust rules by collusion to prevent exchanges from entering the credit derivatives business between 2006 and 2009.

ISDA and Markit were named along with 13 investment banks in the EC’s statement.

Two months later in September, it was revealed that ISDA’s interest rate swap benchmark ISDAfix is now the subject of investigations by the Commodity Futures Trading Commission (CFTC) in the US and the Financial Conduct Authority (FCA) in the UK into alleged price manipulation.

The EC statement of objections focuses on Deutsche Börse and the Chicago Mercantile Exchange’s efforts to break in to the credit derivatives business.

The preliminary findings of the investigation suggest that when the two exchanges approached ISDA and Markit to obtain licences for data and index benchmarks, the banks controlling them instructed them to license only for OTC trading purposes and not for exchange trading.

The initial investigation was opened in April 2011, but its scope was extended to include ISDA in March 2013. ISDA now has the right to reply in writing and request an oral hearing to present its defence.

At ISDA’s annual European conference in London on September 19, chief executive officer Robert Pickel told journalists the organization was working on a response to the EC’s allegations.

“The European Commission delivered a statement of objections and we are putting a response together that will come out later in October,” he said. “We are not aware of any specific allegations and we don’t know where this is going. But we are quite confident that the steps we took were the proper steps.”

Martin Wheatley, chief executive of the FCA

Keynote speaker at the September 19 conference was Martin Wheatley, chief executive of the FCA. Nine days earlier he had confirmed that an FCA probe into ISDAfix was at an early stage when responding to questions from the UK’s Treasury select committee on September 10. ISDAfix is published twice daily in six currencies: the euro, Hong Kong dollar, yen, sterling, Swiss franc and US dollar.

Like Libor, ISDAfix is determined using bank submissions of the midpoint of their swaps trades. The CFTC probe surrounds US dollar-denominated swap pricing, and in April the regulator subpoenaed 15 investment banks, Icap and ISDA to provide evidence in its investigation.

CFTC and FCA are now combing through more than one million emails and taped phone calls for evidence of manipulation. The investigations are particularly focused on Icap’s New Jersey-based rate swap desk, which controls the US-dollar denominated swap submissions for the benchmark. The desk earned the sobriquet Treasure Island at the height of the market due to the amounts that its traders were making.

On May 14, Icap chief executive officer Michael Spencer stated: “We have very strict rules for our staff who work on the dollar-swap desk. So far, nothing that we have discovered in our internal investigations gives me sleepless nights, and nothing that I’ve heard externally suggests ISDAfix has been tampered with.”

ISDAfix is the pricing benchmark used by most of the $379 trillion interest rate swaps market.

In his conference speech on September 19, the FCA’s Wheatley emphasized the importance of wider benchmark reform. “The European Commission has published its draft proposals for the regulation of benchmarks,” he said. “It is encouraging to see the Commission using Libor reform as a broad template for benchmark regulation. This makes good sense.”

He then said it was imperative this work “expands its horizons”, a clear reference to the need to reform other benchmarks.

“The key issue here is that restoring confidence and trust is not simply about Libor,” said Wheatley. “It may well be the biggest benchmark – referenced in contracts worth some $600 trillion – but it is by no means the only one capable of knocking market confidence.

“To protect against this we are seeing other administrators – like ISDA – announcing radical changes to the governance and methodologies of their benchmarks.”

For ISDAfix that will involve changing the way prices on the index are determined. The trade organization has hired Oliver Wyman to advise in its reform of the benchmark but it will necessitate a move away from dealer price submissions.

“The mechanism that is in place for setting ISDAfix is very similar to that for Libor,” said Stephen O’Connor, ISDA’s new chairman, at the conference. O’Connor became the organization’s first full-time chairman in June after a 25-year career at Morgan Stanley.

“ISDAfix is probably easier to fix than Libor as there is an underlying market in swap transactions,” he said. “There are hundreds or maybe thousands of swap transactions going on each day. And with a move to a centralized trading facility, the approach will be to pull information from those venues.

“ISDAfix will be anchored in a market that does have transactions.”

O’Connor confirmed that ISDA will launch its reformed ISDAfix benchmark for swaps denominated in euros next year. “We will switch for US dollars in 2014 and for other currencies as liquidity develops,” he said.

In September, software services firm Clarus Financial Technology launched the first index determined only from transactions reported to a swaps data repository, named SDRFix. It is based on actual cleared swap transactions data sourced from the DTCC’s US Swaps Data Repository.

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