Voice RFQ SEF? Transition Over Transformation

The finalization of the Swap Execution Facility (SEF) rules on May 16 is widely expected to herald a new era in swaps trading, with more transparent, electronic, order-driven and open-access markets facilitating competitive, multilateral trading. Nearly all of the 165 participants in our “SEF Industry Barometer: Summer 2013” believe that an active order book will have emerged in rates by 2015. At the same time, they also believe that 24% of the overall swaps market will be conducted via voice request-for-quote (RFQ).

The Commodities Futures Trading Commission (CFTC) allowed for voice trading in the final SEF rules in accordance with the Dodd-Frank provision that swaps trading should occur “by any means of interstate commerce”. The additional decision to reduce the RFQ requirement to two/three from five, in tandem with the voice provision, has facilitated the emergence of a business model that can replicate today’s existing workflow for large trades. It is called the Voice RFQ SEF.

A Voice RFQ SEF represents the most familiar trading protocol for many buy-side and sell-side traders who wish to continue transacting in size. Size discovery is easier over the phone than on electronic platforms where trade sizes are significantly smaller. Interdealer Brokers (IDBs) would seem to be the best positioned to launch a Voice RFQ since much of their business is voice-based already. They can also demonstrate a high degree of liquidity as well as the ability to execute in size, given their wholesale roots. However, they still face the challenge of getting the buy-side onto their platforms.

Some question how a Voice RFQ SEF fits with the original G20 agreement of 2009: “All standardized OTC derivative contracts should be traded on exchanges or electronic trading platforms”. It would be easy to see why those who have waited more than three years to challenge the traditional swaps players might feel a sense of dread. The preservation of a trading protocol that closely resembles existing trading practices means that exchange-like trading in swaps will only now occur through gradual changes in participant behavior and regulatory refinement of the SEF and exchange rules.