Best Innovation by a Bank, Broker or FCM in the Field of Customer Service

Giving CDS customers what they want

Credit default swaps have had a bad press of late. That is partly because some of the CDOs that poisoned banks like Merrill Lynch and UBS were technically CDS, though very different from the simple instruments that CDS traders usually deal with.

And it is partly because the vast quantities of counterparty exposure in the market contributed to the fear of a systemic collapse when institutions like Lehman Brothers went down.

The market has changed remarkably since summer 2008, with trade compression reducing the notional principal outstanding from more than $60tr to an estimated $36tr as of June 2009. Central clearing, long talked about and often dismissed as impossible, has come to the market, with $4tr of trades put through Intercontinental Exchange’s clearing houses by the end of November.

One firm that sees itself as in the forefront of the drive to improve the market’s transparency and reduce counterparty risk is GFI Group, the New York-based interdealer broker.

GFI has been a leader in CDS for well over a decade, and has learnt that the market is too complex and diverse for any one solution to meet all its broking needs. Different approaches are needed in different regions, and each approach must be flexible enough to cope quickly with dealers’ varied needs when they want to trade.

Trades vary hugely in size and in the liquidity of the underlying, from popular indices to obscure single names and index tranches.

In 2004 GFI introduced CreditMatch, an electronic trading platform for CDS and cash bonds. But although some US clients have used it all along, GFI knew a different trading experience would be needed in the US market from in Europe, where electronic executions peaked in 2008 at over 80%.

Early in 2009, at a bleak time for the CDS market, GFI launched an e-trading solution tailored for the US. It integrates a new auction-based process with the voice workflow. Dealers can compete for a trade at a fixing level and brokers can support the process at their request.

This has allowed GFI to collect a critical mass of users and consult them about where to take the system next. The brokerage believes it is well positioned to satisfy clients whether the US market remains bespoke or evolves towards a traditional real time trading style, as in Europe.

The principle of CreditMatch is to give traders as much information as possible about the market, but with flexibility, so that they can tailor the interface to their own needs; and to support them as needed with voice brokers for large or bespoke orders, especially where anonymity and confidentiality are needed.

CreditMatch users have access to GFI’s global liquidity pool, seeing prices and trades in real time. They also get comprehensive access to historical price information for every tradable instrument. Bond and CDS prices are shown alongside each other, offering users correlated information on movements in either market.

After a trade is made, it is straight-through processed using a real time API and FTP service.

A variety of trade execution styles are possible, with several alternatives of mouse and keyboard actions, or a collective process called Livetrades. This enables new traders, as well as the original buyer and seller, to submit a request to work up or join a trade, so that one initial transaction can be multiplied to several – an intelligent method of engendering liquidity.