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Cohen: ‘Open Access’ Needed to Ensure Derivatives Trading Integrity

Despite some of the criticisms leveled at the Dodd–Frank Wall Street Reform and Consumer Protection Act, there are clear instances where lawmakers and regulators hit the nail right on the head.

One example is the bill’s strong support for the principle of “open access” to protect the integrity of the trade reporting process for over-the-counter derivatives.

Although open access is deeply embedded in the legislation, the potential exists for disruptions to occur in the reporting chain that could hinder efforts to bring transparency to the market unless regulators reinforce this principle in the final rules implementing Dodd-Frank.

The legislation calls for both cleared and non-cleared OTC derivatives trades to be reported to swap data repositories, which will hold the trade and position data on these transactions.

When this data is centralized in a single repository, such as the Depository Trust and Clearing Corp.’s Trade Information Warehouse for credit default swaps, regulators have a powerful tool to monitor global trading activity across all assets classes, view extensive details about a particular trade within their jurisdiction and evaluate risk concentrations.

In other words, swap data repositories give regulators the information they need to help make appropriate decisions to avert another financial crisis.

Under the Dodd-Frank Act, market participants are legally responsible for reporting their trades to swap data repositories. But in many cases, it will be the trading platforms and clearinghouses that perform this task on their customers’ behalf to ensure timeliness and to reduce compliance costs.

Because most market participants will trade across multiple platforms and clear transactions through different clearinghouses, the potential exists for any one of these providers to cause disruptions and create serious risk of disputes, delays and legal challenges.

The ability of swap data repositories to bring greater transparency to the OTC derivatives market is dependent on having a single comprehensive and accurate data set representing all activity and positions in this market segment.

However, if a trading platform, clearinghouse or swap data repository refuses to or delays creating linkages with another provider when there is customer demand for it, this lack of connectivity will prevent the free flow of data.

The result will be an incomplete data set that paints an inaccurate and distorted picture of the market, impairing transparency and hampering the ability of regulators to effectively monitor systemic risk.

To prevent such a breakdown from occurring, regulators must promote in the new rules the principle of open access.

First, regulators need to ensure that trading platforms, clearinghouses and swap data repositories, the three pillars of the Dodd-Frank infrastructure, interact with one another on an impartial basis and guarantee interoperability.

Second, they must reinforce that none of the three pillars should be able to prioritize linkages to providers with lower customer demand over linkages to providers with higher customer demand for competitive or commercial reasons.

The importance of coordination between and among market participants and trading platforms, clearinghouses and swap data repositories is critical to achieving the transparency and risk mitigation goals of regulators and lawmakers. The Dodd-Frank Act got it right on open access. Now regulators need to put an exclamation point on it.

Dan Cohen is managing director and head of government relations for the Depository Trust & Clearing Corp., a non-commercial cooperative that serves as the primary post-trade infrastructure organization for U.S. capital markets.

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