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Thursday, 30 March 2017

SEF merger talk grows stronger

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The saturated US market for over-the-counter swap execution is on the cusp of the first wave of consolidation, just four months on from the first mandated execution of standardised derivatives on newly created swap execution facilities.

Market participants and regulators have expressed disappointment at the slow migration of buyside firms into the SEF trading environment in the first four months, as volumes have been slow to match plans for a revolution in the way that OTC swaps are traded.

It has been a tough start for the plethora of start-up firms vying for a piece of the action. In a landscape of 24 temporarily licensed platforms, established players hold a sizeable advantage. In some recent cases, start-ups have reorganised their existing platforms or made changes to senior leadership to adjust to the competitive market (see “Make or break time for SEFs”).

But start-ups are not the only players considering changes to their business strategies. Market experts say that some of the more established firms are looking to acquire smaller fish in an effort to boost value and get ahead of expected consolidation.

Specifically, Bloomberg has expressed interest in start-up platform trueEx, while State Street is pursuing Javelin Capital Markets, according to an industry consultant close to Bloomberg and State Street.

“Buying any of these platforms would be like buying a CD manufacturer after Napster came out”

TrueEx CEO Sunil Hirani confirmed to IFR that his company had been approached by larger firms, but denied any negotiations with Bloomberg and maintained his intention to remain independent. Javelin CEO Wally Sullivan, who recently took over the firm following the departure of founder and former CEO Jamie Cawley, also said the firm was not for sale at this stage. 

“We are going through a rapid growth phase and it’s important that we stay nimble and focused on building our business,” Sullivan told IFR. Bloomberg (which competes with IFR’s owner, Thomson Reuters) and State Street declined to comment.

No surprise

Heightened merger talk should come as little surprise since the majority of market participants have long predicted that the landscape for SEF operators would probably only be populated by two to three firms in each asset class.

But while the interest may only be in its early stages, it foreshadows an eventual discussion of SEF valuations. At this stage market participants are questioning whether any firm outside the major incumbents holds a great deal of value – and argue that it is unlikely that any firm is sitting on revolutionary technology.

“Buying any of these platforms would be like buying a CD manufacturer after Napster came out,” said the consultant.

TrueEx has been touting its ability to efficiently execute bunched orders for asset managers, a service it says few others can offer. The firm also hopes to attract volumes via its compactions service, which helps buyside firms to reduce line items efficiently.

Javelin has long argued that its technology positions the firm for an expected migration of dealer-to-client swaps trading into an order book execution format. As of now, the majority of dealer-to-client volume is executed on a request-for-quote basis. 

But both start-ups have been executing only hundreds of millions of dollars in notional per week over the past month, according to data from ClarusFT, compared with tens of billions per week at industry-leading platforms such as Bloomberg, ICAP, Tradition and Tullett Prebon.

SEF volumes are likely to receive a shot in the arm in the coming weeks and months, however, as packaged swap transactions will be forcefully migrated on to SEFs for the first time, and smaller firms are hoping for their fair share of the enlarged pie (see “Packaged swaps get SEF go-ahead”).

Specifically, swap spread transactions that comprise OTC swaps bought in concert with Treasury bonds and that represent 90% of dealer-to-dealer activity and 60% of buyside-to-dealer volume will be mandated for execution via SEF starting June 16.

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