Derivatives users have eliminated US$750trn notional of over-the-counter swaps through TriOptima’s triReduce multilateral compression service, as they slim down derivatives exposures that attract hefty capital and leverage treatment under new regulations.
Since launch in 2003, more than 200 financial institutions have used the service to tear up superfluous legacy transactions as they clean up their swaps portfolios to meet a minimum 3% leverage hurdle under Basel III rules.
In addition to regulatory pressures hitting sellside banks, buyside firms have also participated in compression activity to achieve operational efficiencies across their derivatives books.
Compression activity has played a crucial role in reducing gross notional of outstanding swaps contracts across the market. According to the Bank for International Settlements, gross notional outstanding across all derivatives contracts stood at US$553trn at the end of June 2015, compared with US$692trn a year earlier and a record US$710trn at the end of 2013.
Research completed earlier this year by ISDA found that total notional outstanding in OTC swaps had fallen by approximately 62% as a result of compression. In interest rate derivatives, the industry body’s analysis showed that activity increased by 4.7% between December 2014 and June 2015 despite a 14% fall in notional outstanding, according to BIS figures.
Product expansion
Through triReduce, banks have compressed swaps exposures across a range of products including credit default swaps, commodity swaps, inflation swaps, cross-currency swaps and FX forwards, though the bulk of activity has been in vanilla interest rate swaps, which account for almost 60% of the entire OTC derivatives market.
Interest rate swap contracts have been torn up across 27 currencies, including instruments that are cleared through central counterparties and those that are held on a bilateral basis.
“The recent dramatic surge in multilateral compression is a direct result of the collaboration between TriOptima, market participants and clearinghouses around the globe, as well as CLS,” said Peter Weibel, CEO of triReduce.
“The positive effect of compression is clearly reflected in the declining outstanding notional amounts reported by the BIS. We are planning to introduce triReduce compression cycles in more CCPs later this year and will continue the expansion of our catalogue of compression products.”
New technology that allows trades to be “unlinked” has enabled more efficient hit rates for tearing up transactions during compression cycles. By unlinking trades, counterparties can eliminate trades without the need for an agreement from their opposite counterparty.
As a result, single cycles are now capable of slashing huge portions of notional volume off individual markets. Last week, TriOptima confirmed that it had compressed 40% of outstanding notional and 49% of total outstanding trades in Polish zloty interest rate swaps and forward rate agreements in its latest triReduce compression cycle. The process involved 18 members of LCH.Clearnet’s SwapClear platform.
”Capital requirements for banks continue to be a major incentive for firms to compress their swaps books and drive down notional outstanding,” said Cameron Goh, head of clearing solutions at SwapClear. “As a result, our members and their clients have a healthy appetite for the capital and operational efficiencies that can be achieved through compression and we expect demand for these services to continue to grow.”