Manual, paper-based processes of contract negotiations and confirmations in the $400 trillion over-the-counter (OTC) derivatives market have created a substantial backlog of trade confirmations, according to a new research study by TABB Group, an independent financial markets research and strategic advisory firm. From June to August 2007 alone, the total number of backlogged confirmations-the legal records evidencing derivatives trades-jumped 250 percent, according to the study. The backlog of trade confirmation documents has resulted in poor transparency and left the financial services sector exposed to unnecessary risk. In many cases, according to the report, confirmations were not only unsigned but also uncreated.
The TABB Group study, OTC Derivatives Processing: Blazing a Trail to Automation, which is being distributed through EMC, the world leader in information infrastructure solutions, reports that the estimated outstanding value of all OTC interest rate, currency, credit, and equity derivatives has grown nearly 30 percent a year since 2002. As of mid-2007, the study estimates there were $400 trillion in outstanding OTC derivatives contracts. But as the market has expanded, the automation of customer communication management processes such as contract negotiations and confirmations has not kept pace, resulting in the substantial backlog, according to the report.
EMC Document Sciences xPression® 3 software suite enables organizations to automate the creation and delivery of highly customized communications, including contracts, policies, statements, and correspondence. xPression for Derivatives manages contract negotiations and confirmations online in a secure and easy-to-use environment, which expedites complex OTC derivatives processes with granular-level risk management capabilities.
"In this world where hundreds of millions of dollars are invested in nonstandard products, human error can lead to huge monetary losses and litigation," said Kevin McPartland, TABB Group senior analyst. "Automation of the customer communications process is a must-have for any business competing in this market, as the potential for loss could be devastating. Newer methods of affirmation include software specially designed to manage communications between counterparties to ensure trade details are correct. Solutions such as those offered by EMC allow for online negotiation of the trade, which mitigates risk by saving time and enabling greater transparency of details."
"The report by TABB Group is a wakeup call for the financial services industry and offers a detailed picture of the continuing challenges it faces with OTC derivatives," said J. Douglas Winter, vice president and general manager of the Document Sciences business unit of EMC’s Content Management and Archiving Division. "Solutions such as xPression for Derivatives can provide more transparency, less risk, and greater peace of mind for firms still struggling with negotiations and confirmations that do not adhere to an automated process."
Master agreements, confirmations, and workflow processes for OTC transactions all present unique challenges to financial services firms. Negotiating a complicated master agreement, for example, requires frequent counterparty communication, most of which is still performed manually, leading to significant backlogs. Each trade might have 100-plus data points to affirm with the counterparty before a custom confirmation document can be created. According to the report, the creation of this document is at the heart of the OTC derivatives backlog, which has resulted in unnecessary risk and poor transparency.
EMC Document Sciences is part of EMC’s Content Management and Archiving division. In addition to providing customer communications management solutions for the OTC derivatives market, EMC offers a suite of transactional content management products that address the broad spectrum of challenges in derivatives management, including collaboration to aid agreement negotiation, business process automation to ensure accuracy and auditability of the approval process, paper digitization to convert paper to instantly usable business assets, and automated retention management and archiving to ensure legal compliance. EMC is well positioned to deliver a full end-to-end suite of capabilities to speed OTC derivatives management.
"Buy-side firms are more likely to seek out end-to-end systems rather than purchasing building blocks to integrate with homegrown products," McPartland said. "This trend has led many software providers to either merge with firms providing complementary products or form alliances creating integrated end-to-end solutions. For example, Document Science’s acquisition by EMC has created a suite of products-EMC also owns Documentum-which allows one-stop shopping."
