STEERING COMMITTEE
OTC DERIVATIVES:
Electronic Confirmation Service
AGENDA – September 16, 2002
• Overview of Trade Confirmation Initiative
• Preliminary Business Case Analysis
• Discussion Critical Planning Factors
• Next Steps
OVERVIEW OF TRADE
CONFIRMATION
INITIATIVE
RATIONALE FOR NEW DTCC SERVICE
• Current manual process is expensive and labor intensive,
resulting in lengthy confirmation cycles, mistakes, and a
generally difficult control environment, including difficulty in
quickly identifying and responding to the most important
discrepancies, non-standard provisions, etc.
• Less tangible, but real, costs include:
• High probability of improper hedging due to uncertainty or
misunderstanding of legally enforceable positions (write-offs)
• Limited ability to accommodate increased deal flow (business
drag)
• Potentially, additional regulatory capital charges (capital costs)
• In addition, there is currently no single effective forum for
streamlining confirmation process en masse or encouraging
quicker/better internal processes and no facility with good buyside connections
RATIONALE FOR NEW DTCC SERVICE
• DTCC service will not only replace personnel performing
manual matching of confirms, but will also provide deal
certainty, improve internal control processes and facilitate ramp
up of volumes, thus reducing less tangible, as well as the
tangible, costs.
• In addition, by taking deal confirmation to the worlds largest
industry utility, the industry will:
• Effectively discourage multiple one-off arrangements –
consensus reached quicker with an initial smaller group will
have imprimatur of recognized utility
• Permit utility reporting on deal input timeframes, error rates,
etc. – DTCC successfully used this reporting process to cleanup prior industry-wide confirmation/matching problems in the
municipal and corporate debt markets
• Have the only provider with strong buy-side connections, a
product aimed at easing buy-side, as well as inter-dealer
processing, and a place where buy-side players would be
comfortable with one-stop shopping
TRANSACTIONS COVERED
DTCC service aims at covering all transactions, but, to build
credibility and provide quick relief for the most problematic areas,
DTCC proposes the following implementation schedule:
• Within 8 months – single reference entity credit derivatives; and
equity options – initial trade only
• Year 2 – subsequent events; other credit and equity derivatives;
begin fixed income implementation (probably rate and currency
options)
• Years 3 - 5 – rate and currency swaps, FRAs, commodities
(schedule based on accumulated experience, need and state of
industry, some items could be pushed up to year 2)
Aggressive buy-side marketing follows each successful inter-dealer
implementation (subject to analysis and approval by steering
committee).
OTHER HIGHLIGHTS FROM DEMOs
• Initial feedback from selected large buy-side players is positive,
especially ability to accept or modify dealer confirms on-line in one
place and use DTCC as central deal database.
• The following suggestions, received during demo process, have been
incorporated into design and cost estimates for initial pilot
implementation:
• System will indicate to users when defined key items match (as
specified by steering committee), even when non-key items
remain unmatched
• Where not all key items match, system will suggest pairings of
submissions based on some subset of key items matching (as
specified by steering committee)
• System will indicate when there is no suggested pairing for a
submission
• System will indicate whether a trade contains non-standard
additional provisions, and when only they remain unresolved
PLATFORM FOR FURTHER BENEFITS
• Daily automated price/deal reconciliation to facilitate collateralization
process
• Payment tracking; end-of-day net settlement at DTC
• Multi-lateral collateral and close-out netting
• Provides significant regulatory capital benefits under Basle as
firms are required to accept non-zero risk-weight collateral
• As vetted with leading U.S. and U.K. bankruptcy counsel,
proposed DTCC collateral netting facility will:
• Permit multi-lateral netting of daily marks and close-out
P&L
• Reduce counterparty failure risk without loss sharing or
independent pricing of deals – parties to badly priced or
volatile deals bear the risk
• Streamline and remove risk from the collateralization
process
PRELIMINARY BUSINESS
CASE ANALYSIS
KEY ASSUMPTIONS IN INITIAL BUSINESS CASE
• Two initial transaction types:
• Credit Derivative: Single Reference Entity
• Equity Derivative: Equity Options?
• One set of XML messages per product:
• Use FpML where it has been developed and
satisfactorily tested for a product, otherwise develop
an FpML-like XML (development led by Ops &
Tech group; agreement reached by 11/1)
KEY ASSUMPTIONS IN INITIAL BUSINESS CASE
• Core functionality in Release 1.0 for Q2’03
• Trade matching of two sides
• Acceptance/modification of counterparty input
• Field by field matching with tolerances where defined
by group business rules
• System identified potential matches for users
(Where key items match, where subset of key items match, etc.)
• Full transaction audit trail and history
• Transaction entry and modification through
computer to computer transmission & via the public
Internet
• Multi-year transaction storage with on-line access
KEY ASSUMPTIONS IN INITIAL BUSINESS CASE
• Real-time processing – trade matching operates real
time
• Reporting in real time (to be confirmed by group is more
expensive than multiple batch cycles
• Processing of unmatched items can be done through
computer transmission or via web interface
• Web interface will support functionality as shown in
TRACER demo
• On-line exception viewing with user defined sorting filters
• Support for counter party identification data
• Multi-level entitlement structure administered by users
• Digital certificates for online authentication
TIMING ASSUMPTIONS
Q3’02
Finalize Business Case
Pilot commitment
Functional Specifications
Pilot Participant sign off
Technical Specifications
Systems Build
Systems Test
Q4’02
Q1’03
Q2’03
11/15/02
11/1/02
1/3/03
4/403
5/1603
5/30/03
Pilot Rollout
VOLUME ASSUMPTIONS
ISDA 2002 Operations Benchmarking Survey
• Adjusted to reflect Pilot Market Opportunity
e.g. 100 Trades
70% for “vanilla” template
38 % interdealer market
60 -80% largest counterparties
Net 20-25% of your Daily Volume assumed in
Business Case
DTCC EXPENSE ASSUMPTIONS
• $4million development expense amortized over 3 years
• $2.5mm for release 1.0
• $1.5 for release 1.1
• Leverage trade matching engine & existing data
centers
• Pilot participation of 6, but expansion of participants
to 35 by year 5
• Two sources of revenue
• Trade ticket starts at $100 with reductions anticipated with
additional volume & learning curve benefits
• $5,000/mo/product membership fee
• Fully loaded cost for line of business
CALCULATION OF FIRM BENEFITS
• Reduction in Operating Expenses
• Headcount reduction based on ISDA reporting of
Trades per FTE per week
• Fully loaded FTE = $160,000
• Salary, bonus, benefits, technology support, space
• Risk reduction --- $300,000 per year
• One time implementation expense --- $250,000
Review of Pro Formas
See separate handout
DISCUSSION OF
CRITICAL PLANNING
FACTORS
DISCUSSION OF CRITICAL PLANNING FACTORS
Items for Discussion
• Selection of specific product types for pilot
• Key technical and functionality assumptions
• Ops & Tech working group responsibilities (see Next
Steps)
• Should use of pared down templates be a goal
• Should there be a role for inter-dealer brokers and
buy-side in the pilot
NEXT STEPS
NEXT STEPS
• Operations & Technology Working Group
• Recommend specific functionality for each
implementation phase
• Address message and interface details
• Recommend trade matching criteria, tolerances, key
items, suggested pairings, etc.
• DTCC staff will be produce documentation for
review by working group
Target first meeting: week of Sept. 23rd& weekly
thereafter until initial specs completed by November 1
NEXT STEPS
• Steering Committee
• Meet every two weeks beginning week of Sept. 30
• Review Ops & Tech progress on technical issues,
sign off on business issues
• Prior to next meeting, provide trade data estimates
needed to finalize pricing and general feedback on
business case
• Quick time to market requires early commitments
to the pilot