The rapid growth of the global over-the-counter equity derivatives markets is in danger of grinding to a halt because of a lack of up-to-date infrastructure and low levels of automation, according to a new report by the Aite Group.
The report, “Trends in OTC Equity Derivatives,” states that the length of time required to confirm OTC equity derivatives transactions – sometimes weeks of months – has caused concern among market participants. And one in five trades is subject to processing or trade capture errors.
“The primary barriers we observed to increasing automation in the market place are the complexities that arise between trading firms in the legal documentation of OTC equity derivatives transactions,” says Brad Bailey, senior analyst, Aite Group. “Understanding these complexities and identifying ways to simplify the execution of Master Confirmation Agreements (MCAs) between market participants would be an important first step to ease the processing issues in these products.”
The report states: “Currently, not all the dealers have signed MCAs between them. To get the proper documentation to their buy-side clients, dealers need to establish which products and regions are important to each client and have that documentation put in place as a starting point. In many cases, large packets of legal documentation, spanning multiple regions and products are sent to clients, overwhelming them.
“The potential combinations of product and regional documentation present a very cumbersome array of possibilities. They quickly add up to a significant universe of documents from both a dealer’s and a buy-side client’s point-of-view. For instance, a typical, large buy-side firm with just five OTC equity derivative dealer relationships would be looking at about 80 possible combinations of product and regional legal documents.”
The current environment for OTC equity derivatives needs a solution to unify the documents used across the world for products and clients, says the Aite Group.
This global OTC equity derivatives markets grew to $6.4 trillion in June 2006, a 12-month increase of 32 percent, according to The International Swaps and Derivatives Association, Inc (ISDA).