G20 Foundation Publications Australia 2014 | Page 28

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TRADE & FINANCE
TRADE & FINANCE
An objective
benchmark for the
money market
Dr. Hartmut Graf, CEO, STOXX Ltd
The financial crisis has
disillusioned investors in many
ways. One painful experience was
that some institutions that were
once trusted, now no longer have
investors’ trust. For example,
commonly used benchmarks,
such as money market rates
for the euro - Euribor - and the
British Pound – Libor - lost their
reputation as an accurate measure
of short-term interest rates when
they were manipulated. However,
neutral index providers have
developed solutions that address
these lessons learned from the
financial crisis. One of them is the
secured money market that has
been growing dynamically since
the financial crisis, and provides
an alternative to interbank trading.
Based on this market, sound and
objective benchmarks have been
developed that provide a new,
accurate and objective metric for
the money market.
The suspected manipulation of key
money market benchmarks during the
financial crisis triggered regulators to
define criteria for the calculation of
all indices independent of the asset
class and markets they replicate. The
proposals by the European Securities
and Markets Authorities (ESMA),
the European Banking Authority
(EBA), the European Commission
and the International Organization
of Securities Commissions (IOSCO)
include a wide range of considerations,
among them the scope and definition
of benchmarks, the establishment of
control and oversight as well as rules
for the administration and reporting of
benchmarks. Of course, the key focus
should be the avoidance of any conflicts
of interest, as this is the main driver
for all manipulations. Neutral index
providers are by nature best positioned
in this respect, as they, by definition, are
not subject to conflicts of interest – they
are not a user of the index. Needless to
say, well-established indices from neutral
index providers for equity markets have
never been subject to manipulations.
Regulators however do not differentiate
between subjective and objective
benchmarks but also apply the same
rules to strictly rules-based indices that
are created based on transaction data
from exchanges (“objective indices”).
Subjective benchmarks, such as money
market rates, are typically not based on
market data but on contributions from
a panel or other non-market data. Thus
they are less transparent and more
likely to be manipulated. In contrast,
objective indices usually already provide
the key characteristics essential for
stable and reliable benchmarks in the
interest of all market participants. Firstly,
the indices are calculated in a reliable
and transparent manner as the index
methodology is disclosed. In addition,
their sources are publicly available and
transparent as these indices are based
on market data. Secondly, conflicts of
interest are prevented, since neither the
data provider nor the index provider
benefits in any way from the index. As a
result, independent index providers have
no incentive for any manipulation, which
would put their business model – which
is based on reliable data and the trust
of market participants – at stake. Finally,
many innovative benchmarks are based
on such objective and strictly rules-based
indices and help improve the efficiency of
financial markets and support investors
in many of their key challenges.
One of the most recent examples of such
innovative benchmarks is the STOXX
GC Pooling index family that provides
investors with a money market rate based
on reliable market data and addresses
the key requirements regulators have
outlined for sound indices. The newly
introduced STOXX GC Pooling index
family is independently calculated
based on an objective and transparent
methodology. Moreover, the indices
reflect the development of a very liquid
market and thus provide an accurate
metric for the overall money market.
The underlying GC Pooling market has
One of the most recent
examples of innovative
benchmarks is the
STOXX GC Pooling
index family that
provides investors
with a money market
rate based on reliable
market data
grown in recent years to a volume of
up to 180 billion euros with on average
3,000 transactions on the platform.
More than 120 market participants
from 14 countries are connected to the
platform. The secured money market is
attracting volume from the unsecured
money market as it addresses key
concerns raised during the financial
crisis. Firstly, trading on the GC Pooling
market takes place via a central
counterparty (CCP), i.e. each participant
is only trading with the CCP, and thus
counterparty risks that were one reason
for the breakdown of interbank trading
during the financial crisis are mitigated.
Moreover, the CCP nets all positions in
the settlement process and thus helps
reduce transaction costs. The obligatory
collateralization of each position that
is centrally and automatically managed
also reduces credit risks. There are three
different baskets of securities eligible for
collateralization, two of them reflecting
requirements of the European Central
Bank (ECB), which can also be used for
refinancing directly with the central bank.
In late 2014, the first financial
instruments based on the STOXX® GC
Pooling EUR Deferred Funding Rate will
become available. A new futures contract
listed on Eurex will support the risk
management of banks and other market
participants. This is a good example of
how independent index providers can
create innovative solutions, which meet
high regulatory standards and investors
needs in a business environment altered
forever by the financial crisis. ■
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