CDS decline as sector bids to cut risk
By Paul J Davies
Published: September 25 2008 03:50 | Last updated: September 25 2008 03:50
Credit derivatives markets saw the first ever decline in the volume of outstanding contracts over the first half of the year as the industry pursued aggressively its efforts to tidy up the sector and cut risks.
The notional outstanding volume of credit derivatives was $54,600bn at the end of June, down 12 per cent from the $62,300bn at the end of 2007, according to the latest data from International Swaps and Derivatives Association, the global industry body.
The over-the-counter derivatives industry has been under immense pressure from regulators to clean up its act for the past couple of years. Efforts that began with modernising and speeding up the infrastructure of processing and confirming trades has now moved into pruning the huge volumes of older, outstanding trades.
“The derivatives business overall showed consistent growth over the first half of 2008, but what we are beginning to see in credit derivatives is a downturn in … the total amount of trades outstanding,” said Robert Pickel, chief executive of ISDA.
“This decrease primarily reflects the industry’s efforts to reduce risk by tearing up economically offsetting transactions, and demonstrates the industry’s ongoing commitment to reduce risk and enhance operational efficiency. We expect to see more effects of this over time.”
Susan Hinko, head of industry relations at TriOptima, which organises cycles of trade compression and termination, said her company had overseen more than $17,400bn worth of credit derivative terminations in the first half of 2008 in the inter-dealer market. The vast majority of these were index contracts rather than single company exposures.
Ms Hinko added that progress had continued until the past couple of weeks.
“The biggest challenge for this process is employment of resources internally at banks,” she said. “We continue to run compression cycles, but back office staff can get redeployed very quickly. The numbers in July, August and September were really good until Lehman happened, since then there have been more pressing priorities at some institutions.”
The remainder of the OTC market saw growth in outstanding volumes continue, with interest rate swaps up 22 per cent at $464,700bn and equity derivatives up 19 per cent to $11,900bn. This puts total outstanding notional volumes at $531,200bn as of June 30 2008.
ISDA said that this figure described market activity rather than market risk. It estimated gross credit exposure before netting at the end of June was $12,700bn and credit exposure after netting was $2,700bn.
Copyright The Financial Times Limited 2008