Frequent trade matching is touted as one initiative that can help reduce risk in the $450 trillion, privately traded derivatives markets, though a number of challenges may complicate its wider practice, according to an industry study released on Monday.
Concerns about derivatives exposures, and whether collateral posted against the trades would be sufficient to cover losses if a dealer failed, added to stresses in the financial system last year and helped spark runs on banks including Lehman Brothers.
Differences in the way that derivatives trading partners record trades, which may include whether or not a trade was entered into or variations in a trade's size, terms or value, can be risky as they can leave parties with exposures that they are unaware of.
Disputes over trades can also hold up the exchange of an estimated $4 trillion in collateral that is used to back derivatives and mitigate losses in the event of a counterparty failure.
Large derivatives dealers in June adopted daily trade matching of exposures with each other, known as portfolio reconciliation, a practice which now accounts for around 60 percent of derivatives volumes, the study, conducted by trade association the International Swaps and Derivatives Association, found.
ISDA plans to publish documents detailing best practices and minimum market standards by the end of the year to encourage more of the market to undertake the procedure.
Variations in technology used to compare trades portfolios, and concerns over the quality of data used in the systems, however, pose challenges for expanding the practice to the other 40 percent of the market, ISDA said.
To ensure greater use of the practice, a solution is needed to overcome differences in technology and reticence among some participants to make results from reconciliation transparent to their counterparty.
By Karen Brettell
Publish Date: 21 December, 2009
Source URL: http://www.reuters.com/article/idUSN2123301220091221
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