05 February 2008

FT: Europe banks to launch derivatives platform

A group of Europe’s biggest banks are preparing to launch a new trading platform for financial derivatives, going under the codename Project Rainbow, to compete with the region’s exchanges.

The move, mimicking the Project Turquoise plan to attack the traditional stock exchanges, is a further attempt at driving down trading costs.

Project Rainbow’s backers include Barclays, Deutsche Bank, Goldman Sachs, JPMorgan, MF Global, NewEdge and UBS. The group, which was launched last April, is understood to be close to selecting a technology provider and has already selected an interim chief executive.

The plan could receive a boost on Wednesday when the board of LCH.Clearnet meets to consider whether to allow Project Rainbow to clear trades through it, making it possible to shift liquidity from the incumbents because brokers will be able to open a contract on either exchange and close it on the other.

That process – closing out “open interest” – is what has so far stymied efforts to inject competition into derivatives trading because many, if not most, futures trading platforms are “vertical silos” in which the ex-change also owns the clearing platform.

Efforts by Liffe and Deutsche Börse’s Eurex futures subsidiary to compete in the US are widely viewed as having failed because the existing exchanges combined forces so neither of the newcomers could shift liquidity because they did not control the clearer.

The request for clearing privileges presents LCH.Clearnet with a quandry; Liffe is its single largest customer and it could withdraw its business after building its own clearing house. Until last year, Euronext, which bought Liffe in 2001, was its single largest shareholder although it is in the process of reducing its stake.

However, the clearer is now 67.5 per cent owned by customers who are angry that the derivatives exchanges have not reduced tariffs significantly in spite of soaring volumes.

New European legislation, known as MiFID, aims to spur competition in financial services by tearing down structures that block it.

By Norma Cohen

© Financial Times