SEFs Go Live - Incumbents Sitting Pretty
By Radi Khasawneh, TABB Group
Originally published on TABB Forum
While the four largest interdealer-brokers have dominated SEF volumes for interest rate swaps, and Bloomberg’s SEF has controlled credit default swaps volumes, there are opportunities for new entrants to grab a share of the emerging SEF market as new workflows develop.
The introduction of mandatory trading on Swap Execution Facilities (SEFs) this week is the final act in the Dodd-Frank implementation process. It heralds a new era in swaps trading; yet early data shows a select group of incumbents flying out of the gates in liquidity poll position.
Publicly reported SEF data confirms that the vast majority of interest rate swaps (IRS) are traded on the traditional dealer-to-dealer (D2D) platforms. Ninety-four percent of SEF trades, on average, were executed on D2D venues in the first four months of trading. The four largest interdealer-brokers – ICAP, BGC, Tradition and Tullett Prebon – have a relatively even split of market share (see Exhibit 1, below); ICAP has the largest market share, at 30 percent, but that is a function of its strong start in October.
Exhibit 1: Interest Rate Swaps SEF Volume
TABB 2 18 14 1
Source: ClarusFT, TABB Group
In the dealer-to-client market, Bloomberg has dominated the early running, winning a 78 percent market share, compared with Tradeweb’s 21 percent. Also noteworthy is the toehold won by new entrant Javelin, whose Made Available to Trade (MAT) submission was the first submitted to regulators.
TABB Group, however, believes interdealer volume is inflated, reflecting an overnight shift in dealer trading, and that this will rebalance over time as dealer-to-client (D2C) volumes increase and new SEFs emerge.
The situation is reversed in credit default swaps (CDS), where Bloomberg has dominated, executing more than 90 percent of CDS every month (see Exhibit 2, below).
Exhibit 2: Credit Default Swaps SEF Volume
TABB 2 18 14 2
Source: ClarusFT, TABB Group
In both cases – IRS and CDS – the data merely reflects pre-existed workflow that more easily transitioned onto SEFs. Bloomberg’s largely request-for-quote (RFQ) AllQ platform was widely used by credit market participants, while the interdealer venues report voice trades as well as electronic execution. ICE has attracted an average 6 percent market share in its CDS-focused SEF, which is largely traded on its central limit order book, while once again MarketAxess has established a position as a potential disruptor as volumes increase.
That being said, there are still moving parts that may yet change the way flows have behaved to date. Bloomberg and Tradeweb have both executed agency trades on behalf of buy-side clients (after updating their rulebooks last week to recognize this), while ICE had already incorporated that functionality. UBS has also connected its agency offering to Eris’s interest rate futures platforms, adding to its SEF network that will begin streaming prices on the mandatory date. This form of trading negates the heavy technology and legal spend that asset managers with direct connectivity have had to undergo, and the ability to avoid analyzing rulebooks.
Exhibit 3: Industry Market Share (Shares) by SRO Group
TABB 2 18 14 3
Source: BATS, SIP, TABB Group
The data so far suggests that the status quo has continued with SEF adoption, although the trades are not split out by execution type. US equities exchanges Direct Edge and BATS Trading were able to leverage their position as disruptors to capture and maintain significant market share in 2008 and 2009 (see Exhibit 3, above), so there is a compelling precedent for some new entrants to carve a niche in the SEF market over the next two years. Indications from market participants are that the onboarding process has been less smooth than anticipated, so there is likely to be a gradual rather than explosive growth as teething problems are resolved and MAT determinations take effect.