Interdealer broker ICAP’s Web-based forward rate agreement (FRA) matching system, FRA-Cross, launched at the end of January, and has so far completed nine runs averaging 150 trades per run. To date, 40 ICAP clients are signed up to cross euro positions and 36 are crossing sterling positions.
The system enables traders of interest rate swaps (IRS) to hedge, via the Web, their future floating side resets using FRAs. According to Charles Sabel, marketing manager for FRA-Cross, it is the first Web-based service of its kind. FRA-Cross aligns the mismatched elements of banks’ IRS books by automatically matching their interest rate resets with those of their counterparties, so the system eliminates exposure to interest rate volatility.
“Because of the nature of swaps, traders do not normally align the maturity dates of their fixed and floating swaps. This creates many misaligned floating resets,” says Sabel. “This system simplifies the time consuming process of hedging those multiple positions and makes it easier for traders to match off their interest rate exposures. FRA-Cross will let them focus on the swap rate without worrying about short term interest rate volatility. Many traders currently let the floating resets roll off the book, so if we can educate them to use the system, it is a big new market for ICAP.”
According to Toby Young, head of business technology at rival broker Tullett & Tokyo Liberty, the underlying functionality is not new. “We have had automated crossing of FRA mismatches for three or four years now, using a system based on The Beast technology that we use internally,” says Young. “The only difference with the ICAP system is its Web front end that allows customers to input their own mismatch positions. At Tullett, clients send their mismatch data using spreadsheets or over the phone and Tullett brokers enter the details into the system.
FRA-Cross is able to import long and short position details directly from Excel and has a summary page that lists all a trader’s positions in chronological order. Before users can trade, they have to allocate credit to all the banks listed for a particular currency, and, for subsequent crosses, credit details can be saved or amended as required.
ICAP produces a smooth, mid-market yield curve – priced off futures – and two and a half hours before the cross (currently alternate Mondays at 4:30 pm for sterling and euros), ICAP fixes the curve. If clients are happy with the fixed curve, they simply press run.
Sabel says that for one client, FRA-Cross has already succeeded in crossing up to 75% of his positions, and adds that, even if there are residuals, the system still offers significant benefits. “Residuals can be left in the position page for the next run,” he says. “Even if FRA-Cross doesn’t find matches for all positions, by hedging some, it means that clients have a smaller position to hedge in the future and reduces their risk of being hit by the market moving against them.”
FRA-Cross has default matching rules that keep traders’ books delta neutral, says Sabel. To prevent the creation of a new delta – by matching a near position with a far position where relative sensitivities are different enough to matter – the system will only match a position with another position in the same period, or one period either side. It also has customisable matching rules that prevent matching over “spike” times, such as over a central bank meeting time. “And users can set other matching rules such as ‘don’t match over month end, year end’ and so on,” he adds.
At present, FRA-Cross only covers sterling and euro, but Sabel says that US dollar and Japanese yen coverage will be introduced “soon” and that Swiss francs are also slated for imminent release. “Other currencies will be added to the system during 2002; we envisage around 10 currencies by year end,” he says.