OTC derivatives recovering, but valuations industry changing

NEW YORK & LONDON--(BUSINESS WIRE)--The recently passed Dodd-Frank Wall Street Reform and Consumer Protection Act includes provisions addressing the lack of transparency in the OTC derivatives market that will provide a significant boost to the prospects of independent valuation service providers.

According to TABB Group in a just published research report, “OTC Valuation Services: How You Know if the Price is Right,” regulators want more openness in the markets on many different levels. “Dodd-Frank speaks to central clearing, swap execution facilities (SEFs), a central trade repository and the Office of Financial Research to provide a framework for lowering systemic risk,” says Andy Nybo, a TABB principal, the advisory and research firm’s head of derivatives and co-author of the report with Finn Christensen, a senior contributing analyst. “As OTC instruments begin to trade on SEFs and are centrally cleared, they will provide a wealth of benchmark data that will feed more standardized OTC valuation models. This will force a change in business models current valuation service providers use to stay competitive.”

Nybo says OTC derivatives trading volume has returned to 2007 levels. “Although the challenges and opportunities faced by valuations services are varied, TABB believes better times are ahead for those firms able to successfully navigate changes brought about by regulatory reform. Spending on OTC valuations remains an increasingly important area of focus across the industry, with spending totaling an estimated $249 million in 2010.” He adds that by 2013, spending will increase by 18.1%, to $294 million. Over the 2002 to 2013 period, spending for OTC derivative valuation activities will grow at an estimated CAGR of 11%.

Independent OTC valuation services are a critical input used for portfolio valuations and their value is expected to continue to increase in the years ahead. Investors want access to unbiased sources of information, while brokers need to be able to manage exposure risk without the internal bias that comes with proprietary models. Brokers are also facing more demand from clients that want more accurate pricing data.

“This means opportunities for valuation services will also change,” Nybo says, “with the pricing of standardized OTC instruments becoming passé and services targeted at esoteric and illiquid instruments providing the greatest opportunities. As innovation in financial engineering continues, firms will look for the most sophisticated valuation providers to price their positions and portfolios.”

The 24-page report with 5 exhibits explores the current OTC Valuation Services ecosystem and challenges for the providers and how they are adapting their business to the new market conditions presented by the push from regulators with the Dodd-Frank Act. In particular, the report focuses on the five major categories of the valuation service providers, their strengths and weaknesses and challenges that must be overcome to expand and make the most of the new opportunities as well as the Office of Financial Research, FAS 157, SAS 70 and SAS 70 type II audits. Firms cited in the report include: Numerix, FinCAD, Algorithmics, Calypso, Misys, Murex, Bloomberg, MarkIt, SIX Telekurs, CMA, Interactive Data, TP Information, four accounting firms, six consulting/niche providers and six fund administrators.

Other recent OTC derivatives-related TABB research includes OTC Interest Rate Swaps and Beyond: The Path to Electronic Markets; Trading in Asian Derivatives: Opportunities Near and Far; A Rude Awakening for OTC Derivative Executions: Buying a Bandwagon Seat and OTC Derivatives in the Land of the Rising Sun; and Trends in US Futures Trading: The Buy Side Perspective.

The report is available for immediate download by all TABB Research Alliance Derivatives clients and pre-qualified media at https://www.tabbgroup.com/Login.aspx. For an executive summary or to purchase the report, please visit http://www.tabbgroup.com, or write to info@tabbgroup.com.

About TABB Group

TABB Group is the financial industry’s only strategic advisory and research firm focused solely on capital markets. Founded in 2003 and based on the proven interview-based research methodology of “first-person knowledge” developed by founder Larry Tabb, TABB Group analyzes and quantifies the investing value chain from the fiduciary, investment manager, broker, exchange and custodian, helping senior business leaders gain a truer understanding of financial markets issues. For more information, visit www.tabbgroup.com. In January 2010, TABB Group launched TabbFORUM, the online community currently with nearly 4,500 capital markets members, drawn from buy side and sell side firms, exchanges, regulatory agencies, academia, vendors and media, focusing on thought leadership issues covering current industry-wide topics.

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