Recent industry discussion about Swap Execution Facilities has prompted a number of questions about SEFs and their role and impact for our clients and their business.
SEF Update: Recent CFTC Announcement
SEF Trading: Setting the record straight
What is a SEF?
A SEF, or Swap Execution Facility, is a relatively new type of regulated organized market, added to the Commodity Exchange Act in 2010.
The statutory definition covers a trading system, platform or facility on which “multiple participants have the ability to execute or trade swaps by accepting bids and offers made by multiple participants in the facility or system, through any means of interstate commerce, including any trading facility.”
Is Mobius a SEF?
No. We believe we provide quality, cost effective services to our clients, and we do not see any benefit to our clients if we were to register and operate as a SEF. We also do not see any demand or interest from our clients in having their swap transactions executed on a SEF.
As a matter of practice, Mobius develops its own views on appropriate price levels for transacting by applying our market analytics to available sources of market data.
“At Mobius, we believe in market transparency and helping our clients evaluate their different hedging tools to meet their unique business needs. For example, in addition to option and swap structures many of our clients are now finding that managing market risk through pricing terms in their commercial (physical) agreements is a more effective transaction from a liquidity and credit perspective.”Christine AndersonChief Operating Officer, Mobius Risk Group
What are SEF costs?
Like any business, a SEF is free to charge fees for the services it provides. It is common for SEFs (as it is for exchanges) to charge fees to generate revenues to cover their operating costs and seek to earn profits. As a general matter, a SEF is required by the CFTC to have comparable fee structures for participants receiving comparable access to the SEF or comparable services from the SEF.
Is a SEF conflicted?
If a SEF has an affiliate that provides professional CTA services to clients with respect to swaps, it seems fair to consider whether the affiliation creates a conflict of interest for the CTA to favor executing a client’s swap transaction on the affiliated SEF in lieu of executing the transaction on another available SEF or negotiating the transaction away from any SEF through other permissible means.
What is Mobius’ philosophy?
It is very much the opinion of Mobius that the process of transaction support that may (if appropriate and meeting client bespoke capital objectives) result in a hedge transaction is very much unique to each client’s needs, market conditions, and the role and abilities of their banking and hedging counterparties.
SEF vs DCM
A SEF is not a futures exchange, called a designated contract market (“DCM”) under the U.S. Commodity Exchange Act (“”CEA”). Although both are organized markets regulated under the CEA and both have self-regulatory obligations over their market participants, there are important differences between a SEF and a futures exchange.
- SEFs are a relatively new type of regulated organized market, added to the CEA in 2010, whereas futures exchanges have been around for many decades. The CFTC approved the first SEFs in 2013.
- The CEA contains separate and distinct statutory provisions governing SEFs and governing DCMs; likewise, the CFTC has different sets of rules that apply to SEFs and to DCMs.
- The requirements that apply to a SEF are tailored to the role that a SEF performs in the swaps markets.
- In contrast, U.S. futures exchanges list futures and options on futures for trading, and may also list derivatives classified as swaps for trading, although that is far less common. All trades in a DCM’s contracts are subject to centralized clearing.
- If a person wants to trade a derivative that is a futures contract or an option on a futures contract, it may only do so on or subject to the rules of the exchange listing the contract. The contracts that DCMs list for trading tend to have highly standardized terms, as that is more conducive to the type of centralized auction markets they provide.
- SEFs and DCMs are both held to standards for providing open access to qualified market participants. When trading on a SEF, parties typically know the identities of their potential counterparties, whereas trading on a DCM’s centralized market typically occurs anonymously.
- For various reasons, DCMs generally attract a much broader base of market participants than SEFs. In particular, SEFs for swaps based on energy or other physical commodities have faced challenges attracting market participants in part because market participants are not required to use a SEF to enter into such transactions.