Opening Cross: Will OTC Drive Volumes OTT?

The record peaks in market data traffic caused by the recent market volatility may promptfirms to revisit the amount of headroom in their infrastructures. But when planning ahead for the next round of peaks, they may also want to take into account another factor that has yet to play out, but which could ultimately lead to even higher volumes of market data.

Regulatory drives to standardize some over-the-counter derivatives for trading on centrally cleared execution venues dubbed SEFs (Swap Execution Facilities)—or even ultimately on exchanges—could have the knock-on effect of increasing the volumes of market data that firms must capture and process. Trading in many of these assets is still via voice-brokers or request-for-quote platforms rather than in liquid, quote-driven or order-driven marketplaces, with data largely screen-based or delivered via regular file updates rather than streaming feeds. However, moving assets to standardized electronic platforms typically increases both trading volumes and the amount of data generated.

For example, in the foreign exchange market—the largest OTC market, with daily volumes around $4 billion—firms are already dealing with the challenges of integrating multiple data sources to support algorithmic trading, not to mention obtaining low-latency data sufficient to operate competitive algorithms, according to a survey being released this week by complex event processing software vendor StreamBase Systems.

But these issues are not hampering the overall advance of high-frequency trading in FX, which is predicted to account for more than 40 percent of all FX trading by 2012, according to research from Aite Group last year. To meet demand from high-frequency FX traders, as reported in last week’s issue, hosting and network provider Savvis described initiatives to expand its direct connectivity to FX trading venues from its datacenters. And last week, Thomson Reuters announced that it will provide proximity hosted access to its FX spot matching service, as well as to other FX liquidity pools and dealer price feeds, from its Elektron hosting facilities.

Indeed, Tabb Group estimates that US and European derivatives market reforms could increase OTC data rates by 400 percent and prompt a $3.4 billion spending spree this year on clearing and back-office technology to handle increased volumes. According to a report released last week, the changes will also result in latency becoming a bigger issue in swaps trading.

However, recent research by my colleagues on Risk magazine, as well as my own conversations with the industry, indicates that there is little or no use of algo trading for OTC derivatives, and that any mass migration of OTC asset classes to centrally-cleared platforms—let alone even the most liquid of these becoming sufficiently high-volume to generate significant increases in market data rates—is still some way off, giving the industry a respite before it will need to seriously address the issue.

Indeed, the sophistication of some OTC derivatives means that firms are still focused on complex pricing, rather than potential volumes, since the lack of standardization and transparency does not lend them towards central marketplaces. “From the point of view of algo trading, the inflation market is less mature than others… and it will be some time before these instruments become part of that landscape, although I can see it happening in future,” says Satyam Kancharla, head of client solutions at derivatives pricing vendor Numerix, which has just released a new market model for pricing inflation derivatives.

And speaking of respites, the Inside Market Data team is taking a well-deserved summer break next week to recharge our batteries ahead of a busy fall conference season. Normal service will resume on Sept. 5, and in the meantime, you can get your fix of daily news on our sibling portal, waterstechnology.com.