Although business conditions for a U.S. futures commission merchant (FCM) are capital intensive, transformative and hyper-competitive, according to new TABB Group research the leading FCMs in the US are seen on the verge of growing larger under new over-the-counter derivatives market reform rules.
Regulation has been the catalyst for ongoing shifts in market structure with the business environment for FCMs still in limbo as rules are implemented, revised and delayed, says TABB senior research analyst Matt Simon, who wrote “US FCM Business 2013: Posting Margin, Posting Profits,” a new benchmark study. “Going forward, we’ll get a clearer picture of whether the investments FCMs are making in systems and services to support trading and clearing of exchange-traded derivatives (ETD) and over-the-counter (OTC) instruments will pay off.”
The study is based on interviews with 16 US-based futures commission merchants. Interviews took place between June and August 2013 with managers of both exchange-traded and OTC business lines. As of July 2013, these FCMs represented $117.8 billion in client funds under management, accounting for nearly 75% of the $157.7 billion in total segregated funds. Although interviews focused on US derivatives markets, all of the firms support products in other asset classes or participate in markets outside of the United States.
Key findings include:
- The available futures business revenue pie for U.S.-based FCMs is expected to increase 15% in 2014, the result of better market conditions for US futures trading, including interest rate volatility and futurization of swaps.
- Futurization is a major reason why FCMs are improving their execution and clearing capabilities; 80% say swap futures volumes will increase by EOY 2014 as users become more familiar with products.
- FCMs are working to be more transparent with clients about the challenges of their business, including new types of fees and pricing models under consideration as derivatives markets evolve.
- Nearly 45% of FCMs do not factor regulatory or resource costs into their business models or pricing; 21%, say they are evaluating different ways to offset the long term rising costs of supporting OTC and exchange-traded products.
- To kick start revenue growth, FCMs are planning a fee increase for clearing services in 2014; the size of the increase depends on widespread industry acceptance and how different rules alter capital requirements.
- Over 50% say quality of client service and stability of their firms are the most competitive differentiators as certain FCMs are better situated to handle buy-side requests, such as providing electronic access for different markets and products.
- Technology is seen helping to bridge the gap between swaps and futures through cross-product margining tools and reporting solutions; over 80% of the FCMs are working on projects that overlap prime brokerage, futures and OTC clearing.
“As the new market reforms take hold,” says Simon, “the large investment that many firms have made towards building out their FCM will prove fruitful as derivatives markets evolve and converge. As a result, we see business likely to consolidate within the leading US-based FCMs that have sufficient means to access resources and technology and deliver best-in-class solutions.”