Learning Curve

Electronic trading of equity derivatives is growing as the use of derivatives continues to evolve and expand globally. Not least, this growth is thanks to the operational benefits for end-users and dealers. Regulatory changes are also encouraging a move toward e-trading.

Financial products Markup Language is the data representation protocol for over-the-counter derivatives. Since the publication of the first specifications in 1999, FpML has evolved to cover all major OTC asset classes.

JPMorgan is in discussions with the Life & Longevity Markets Association to transfer the intellectual property of its LifeMetrics longevity index to the industry body.

Some investors wrongly assume that the credit default swap market is massive and are swayed by the notion that the liquidity of derivatives is limitless.

Historically, financial institutions used a single standard curve to value derivatives. Recently market participants have started to move away from a single curve for both discounting and forecasting. Instead, they are using multiple curves, each playing a specific role in valuation. Forecast curves continue to be based on Libor, but are built specifically for different tenors. Also, a significant number of participants construct discount curves based on overnight indexed swaps rates.

With the move towards establishing central clearinghouses and data repositories, politicians and regulators around the world are debating whether to establish a national central clearinghouse and national data repository for over-the-counter derivatives in their jurisdictions. Given the globalization of this market, the proliferation of data repositories would actually impede the ability of the international regulatory community to assess global systemic risk. While the impulse is for each jurisdiction to implement its own data repository, this approach would prove to be counterproductive in the long run.

Clariden Leu's SAAF II Global Fund has been liquidated, a move that will likely generate capital losses for investors in open-ended structured notes that reference the performance of the fund.

Michael Jinn, co-head of European credit structuring at UBS in London, has left the firm.

Last year promised to be an important year for derivatives reform, and it was. U.S. lawmakers responded to the financial crisis by passing the Dodd-Frank Act into law in July. Title VII of the Act focuses almost exclusively on regulating the over-the-counter derivatives markets, with broad aims including central clearing, real-time reporting, position limits and capital and margin requirements. Twin agencies, the Commodity Futures Trading Commission and the Securities and Exchange Commission, are given the task of writing rules to implement those goals.

Credit valuation adjustment has been the subject of increased attention by dealers and end-users alike. The bankruptcy of Lehman Brothers, the default or significant downgrade of a number of once-AAA-rated and non-collateral-posting swap counterparties, particularly in the insurance sector, have all fired the interest. Other factors include the implementation of FAS 157 in the U.S. and IAS 39 in Europe, proposed Basel capital requirement rules, impending regulations under the Dodd-Frank Act and increased demand for pricing transparency by corporate end-users.

Companies have long been managing volatility through the use of derivatives to counteract movements in interest rates, currency and commodity prices, and to limit counterparty risk.

The over-the-counter derivatives market's move toward a central clearing model means the walls between OTC derivatives and centrally cleared derivatives are breaking down.