Over-the-Counter Derivatives
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RED Customer Turns Insider
May 28, 2007
With principal offices in London and New York, Markit established itself as a key part of the emerging OTC derivatives infrastructure in part through strategic acquisitions. One important move was the 2003 purchase from Deutsche Bank, Goldman Sachs Group and JP Morgan Chase & Co. of the Reference Entity Database, now marketed as Markit RED, which is the widely subscribed standard that confirms the legal relationship between reference entities that trade in the credit default swaps (CDS) market and their associated reference obligations, signified as nine-character codes known as Clips. Each Clip is created to identify both the entity and the pair.
Dealers use Clips in trade matching on the Depository Trust & Clearing Corp. (DTCC) Deriv-Serv platform and to identify trades in the utility's trade information warehouse. Markit says that it has set up a "preferred pair" for each reference entity that is widely traded, based on DTCC volumes, credit indexes and input from the RED user group. In addition to the DTCC partnership, RED is fully integrated with the Bloomberg and Reuters networks and with all major credit brokers. It has over 2,900 scrubbed reference entities and 3,600 scrubbed RED pairs, or Clips.
Sue Lord, a former RED
client at Toronto-Dominion Bank in London who in January joined the
RED team as vice president, reporting to managing director of
client and reference data services Penny Davenport, offers to
Securities Industry News her inside and outside
perspective on the database and how it operates. "Since joining
Markit," she says, "it has become increasingly apparent to me just
how crucial RED is if you are trading in the CDS market to ensure
legal risk and operational costs are kept to a minimum."
Lord outlined her thoughts as five salient facts about RED and its centrality in the marketplace.
Scrubbing a reference entity involves reading hundreds of pages of documentation. I was completely unaware of the lengths to which Markit, in partnership with law firm Allen & Overy, goes when scrubbing a reference entity. The jurisdictional documents sourced from more than 90 jurisdictions around the world are sometimes hundreds of pages long, especially if the entity has undergone a number of corporate events. It is an almost forensic process to determine a company's history, and the relationship to the debt it may have issued or guaranteed. RED scrubbing is certainly much more detailed than just reviewing a company's Web site or SEC filings.
RED maintains a central record of corporate events for the industry. RED dramatically reduces the need to monitor for corporate actions such as name changes, mergers and acquisitions, or where debt transfer has occurred for entities that are in RED. Entity monitoring is extremely time-consuming and costly, but it is also a duplicated function within some institutions and across the market. In addition to reducing the monitoring burden, RED creates standardization through the Corporate Events download, which means that firms make the same changes in entity data at the same time. This is fundamentally important for the maintenance of records in the trade warehouse.
