We all know that monumental cock-ups are not the sole preserve of OTC markets. Just think of Nick Leeson or the Sumitomo copper scandal. In a timely article about some misplaced conceptions, consultant Larry Tabb warns: “Just because [the US] Congress mandates that OTC products trade on-exchange doesn’t mean that OTC derivatives won’t blow up.”
Writing for the FinanceTech website, Tabb writes: “Somewhere the ideas of ‘exchange-traded’ and ‘risk-free’ have become linked in the eyes of the public. But this is a fallacy.”
He adds: “How can we think that with the wave of a pen we will make an opaque OTC request-for-quote market into a seamless, continuous exchange-traded market? There is greater chance of killing the entire product than negotiating this transformation. Markets do not develop in a vacuum. There are reasons markets are continuous and reasons why they are not. Just because we want a market to migrate on to an exchange doesn’t mean that the market will transform, nor does it mean that it’s the right decision. There are better ways to trade illiquid products than by putting them on-exchange and better ways to manage risk than by mandating that a central counterparty clear illiquid products that cannot be valued.