Equity derivative back office and front office staff alike are looking at ways of clearing up log-jammed equity trades, before the asset class attracts the same regulatory scrutiny as its credit counterpart. At a meeting at Credit Suisse First Boston two weeks ago, operations and legal officials discussed ways to improve processing of equity documentation, according to officials present.
"We think [equity] will become increasingly scrutinized," said an official explaining the motivation for the meeting. "We are just in a blind spot at the moment because all the attention is on credit," he added, noting it is only a matter of time before regulators require equity players to clear up backlogs. The meeting focused on encouraging automated systems for equity processing, similar to those operating in the credit and interest rate markets. It could not be determined by press time if the cross-dealer group would hold another meeting or whether any concrete plans would come out of it.
Equity derivatives are by nature more complex to document than credit or interest rates. In-house counsel said the most common cause of backlogs is disagreements over elections in the confirmations. These make provisions for events such as mergers and acquisitions relating to the stock, or problems delivering the stock because exchange trading has closed. The publication of the International Swaps and Derivatives Association's 2002 equity derivative definitions more than doubled the elections available to counterparties.
"It's always good to have freedom and choices, but there are too many options to be resolved sometimes," said a lawyer at a European private bank. He said his firm has increased its backlog with two or three institutions because it cannot agree on elections with these counterparties.
Officials at ISDA noted market participants have not yet pushed for a committee or plan to deal with equity derivative backlogs specifically, but the issue is being tackled across asset classes by the operations committee. Richard Metcalf, senior director in European policy, agreed the nature of equity derivatives makes the asset class inherently more complex to document and makes confirm and settlement problems more likely. Julian Day, director in European policy who also sits on the operations committee, added increasing levels of automation will also help the equity derivatives market.