Omgeo has responded to growing use of OTC derivatives by its buy-side clientele in the boldest possible way: a pair of acquisitions designed to set a new standard in the way trade positions across asset classes, including OTC derivatives, are consolidated and collateral is posted to mitigate the counterparty credit risk.
The DTCC-Thomson Reuters joint venture announced today that it has acquired Allustra, a London-based provider of collateral management software applications, and a derivatives reconciliation platform designed by Global Electronic Markets (GEM). Between them, the applications will enable Omgeo clients to automate reconciliation, margin calculation and collateral management functions that remain primarily manual in the OTC derivatives markets.
Omgeo has provided trade matching services in the cash markets since it was formed in 2001, but these acquisitions mark its first move into the OTC derivatives markets. The company says the new offerings are not hugely different from its longstanding focus on the equity and fixed-income markets, because it ultimately also entails instructing a custodian to move securities between account.
In fact, Tim Lind, a managing director and head of strategic planning at Omgeo, says the company is only following its clients. “A lot of asset managers are trying to find returns that are not directly correlated to equity indexes or volumes, and so are we,” says Lind. “It’s a pillar of our strategy to diversify our current sources of revenue.”
One of the least well-kept secrets in the securities services industry is the inadequacy of the back office of most fund managers to support the increasing use of OTC derivatives by their colleagues in the front office. Lind says firms have lacked the capacity even to reconcile positions accurately, so that on any given day they might not know what their exposure is to their counterparties.
“The whole reconciliation process that we have come to taken for granted in the cash markets is still a very immature process on the derivatives side,” he says. “So we recognized that as a gap in the market.”
The Allustra application enables Omgeo to offer clients a service that will capture all of a firm’s positions and the collateral associated with those positions, and initiate collaterals call and requests to return collateral. The importance to this process of the GEM application, which makes use of the FpML messaging standard for OTC derivatives to enable counterparties to automate the reconciliation of positions, is obvious.
Importantly, Lind says the service is not confined to the OTC derivatives markets either, but is equally useful for firms managing collateral in the securities lending, repo and exchange-traded derivatives markets as well.
“We are trying to turn the collateral business into a community-based business,” he says. “We want to bring buy-side firms together with their dealers, allow them a structured mechanism to communicate collateral requirements, and then mitigate any risk associated with that by pledging or taking collateral.”
Lind says the acquisition poses no threat to custodian banks and prime brokers offering third-party collateral management services. “I do not think it is either good news or bad news for them,” he says. “Those that are looking to acquire collateral management capabilities will actually be interested in our service. Those that have developed their own proprietary capabilities are chasing a difference segment – a segment that wants to outsource it as opposed to manage the function themselves.”
Lind adds that, because the tools facilitate the exchange of information only, it does not matter that Omgeo is not a bank: The collateral support agreements are still between the counterparties, with Omgeo providing calculation and communication tools only.
Omgeo users will not receive the new service as part of their existing package of products. It will be sold independently of the existing Central Trade Manager (CTM) service, and Omgeo expects it to appeal totraditional fund managers, hedge fund managers, prime brokers, broker-dealers and custodian banks.
Omgeo plans to extend the new functionality to exchange-traded derivatives next year.
“One of the reasons we decided to enter this market with this acquisition is that we think it is not going to wait,” concludes Lind. “The dynamic changes so quickly that we needed to get in while it is hot.”
Mark James, managing director of Allustra, is joining the Omgeo executive committee as a managing director.