More overnight products

Another overnight-linked futures. CME is planning to launch SONIA futures. The futures would come in two flavours: Quarterly IMM dates and MPC meeting dates. More details can be found on CME website at https://www.cmegroup.com/trading/interest-rates/sonia-futures.html. To my knowledge, this is the first time that a central bank meeting date futures is launched. The central bank meeting date futures is one of the options I had proposed in my design of overnight-linked futures.

Other financial institutions issuing SOFR linked paper.

Credit Suisse has issued a six-month certificate of deposit linked to SOFR. The paper pays SOFR+35bps. More details in the FT article "Credit Suisse becomes first bank to issue debt tied to Sofr"(subscription required).

Barclays has issued commercial paper linked to SOFR. See the Bloomberg article "Libor Challenger Embraced in Debut Commercial Paper Transaction".


A Quant Perspective on IBOR Fallback Proposals

A month ago, ISDA launched a consultation on IBOR fallbacks. The question of the fallback in case of a benchmark discontinuation has obviously legal background. Parties to the derivatives contracts have to ask themselves: What is the meaning of what I signed? Is it really what I want? The answer to the last question is probably: "no, it is not what I want!" This is why most of the derivatives users agree that a change in the fallback language is required.

Once you are convinced that what you have is not what you want, you have to review the alternatives. I have published a note with a personal review of the alternatives from a "quant" perspective. Even if personally I would prefer to the called it a "qualitative analysis" as before assessing the quantities associated to the alternatives, you have to check their qualities against a set of qualitative criteria.

The note gives some background for the Season 2 of Game of Benchmarks: The Questions!

The note is available on SSRN:

A Quant Perspective on IBOR Fallback Proposals


With the increased expectation of some IBORs discontinuation and the increasing regulatory requirements related to benchmarks, a more robust fallback provision for benchmark-linked derivatives is becoming paramount for the interest rate market. Several options for such a fallback have been proposed. This note describes and analyses some of those options. The focus is on the quantitative finance impacts. None of the options that have been proposed fits all of the criteria for a good fallback provision. It appears that some of the options that have gained traction failed even the achievability criterion. The note concludes with the author's personal preference.

Season 2: The questions


Question 1: Question related to Option 3: Compounded Setting in Arrears Rate

Question 2: Question related to: Description of Fallbacks - Triggers

More SOFR products (II)

More and more SOFR-linked products appear. This time it is the World Bank which issued a SOFR-linked floating rate note (ISIN: US459058GK33), with a two-year maturity and a coupon of SOFR+22bps paid quarterly with a 4 days lockout. The notional issued was 1 billion notional. This is the longest maturity I have seen so far for a SOFR-linked instrument. Once more a lockout period which transforms a compounded setting in arrears into a partially setting in advance rate. The press release can be found here.

It appears that on the same date very large SOFR v LIBOR swaps were traded. The total notional of the swaps was USD 920 millions. More details are provided in the Risk article World Bank completes first SOFR bond hedge.

muRisQ Advisory

Over the past couple of years, in parallel to my work as Head of Quantitative Research at OpenGamma,  I have been working as a freelance advisor on a couple of projects. Those projects include designing of a new interest rate futures, presenting multiple executive training, advising hedge funds on the multi-curve and collateral framework, advising on CSA, Variation and Initial Margin frameworks and commenting on regulations.

For those projects, I'm working under the structure of an independent advisory firm called muRisQ Advisory. Its (concise) website can be found at http://murisq.com/

Don't hesitate to contact me regarding its services or for training, model validation, product design and risk management strategies.


Benchmark and CSA

The following quotes are from a recent article in Risk titled "Esma: Eonia can be used in CSAs after 2020".

Jakobus Feldkamp, senior policy officer for market integrity at the Paris-based European Securities and Markets Authority, tells Risk.net that CSAs will not be dragged into the BMR.

“Esma agrees that it can be argued that a reference to Eonia in a bilateral agreement on an individual exchange of collateral under an OTC derivative is not strictly ‘use of a benchmark’ in the sense of the BMR,” says Feldkamp.

The Article 3 (1) (7) of the European Benchmarks Regulation (BMR), refers to
"determination of the amount payable under a financial instrument or a financial contract by referencing an index or a combination of indices".  The regulation enters in full force on 1 January 2020. The question behind the interpretation of this sentence is to know if CSA referring to EONIA can still be legally used in Europe after that date. Not a minor issue certainly.

The quote from Feldkamp says "Esma agrees that it can be argued [...]". It does not say that it is ESMA's position that CSAs are not financial instruments, only that ESMA agrees that someone else can make that argument, a very different meaning.

But I'm not a lawyer, so what do I know about the meaning of a sentence?

I'm not a lawyer, but I'm a financial engineer (or at least I can claim that I'm one as the title is not protected, see the list of regulated professions in Europe). What about the following situation. I draw a derivative contract with a counterparty. The contract is a fixed v fixed swap that pays net 1 (thousand, million, billion, chose the amount according to your wealth) EUR in one-year time. The contract is under CSA with EONIA collateral. What is paid under such a contract? EONIA collateral rate, compounded over one year. Miracle, this is exactly the payoff, up to the notional payment, of the floating leg of an OIS. This is pure coincidence, I swear it! To make the things clean, I have to remove the collateral initial and final payments, but that can be easily done with a fixed amount payments. I write the fixed amounts contract as a loan and not a derivative, so it does not need collateral. (I can provide an exact term sheet if you hire me as a consultant ;) )  We put in place a netting agreement between the derivatives and the loans to avoid economic credit risk. This does not affect the collateral as the margin regulation explicitly prohibit to take those cross-products netting agreement into consideration for the computation of the collateral on derivatives. I have just created a legal synthetic OIS in EUR using derivatives, CSA and loans when a simple OIS would be illegal!

What is the goal of the regulation? Make the risk management of financial risk for people that need to manage it more difficult and requiring financial engineering or to make the market safer and more efficient? I see more of the former here, but maybe my eyesight is getting poor.

It is very good that the press asked this important question and was able to get an answer. That what the press should do and I congratulate the journalist for that. But personally, I would have preferred that such an announcement, which amounts to a regulatory decision, was done publicly, for example on the ESMA website and not in a private for-profit news magazine. If I was not a subscriber of the magazine, I would not know about this new ESMA policy.

The list of benchmark administrators registered under the new regulation can be found on the ESMA website at https://www.esma.europa.eu/benchmarks-register