Presentation to the CFTC Technology Advisory Committee (TAC)

Dodd-Frank Derivatives Regulation Interconnectivity

March 1, 2011

Trade interconnectivity overview

Interconnectivity is a consistent business or operational process with integrated technology support
Entities involved in trade interconnectivity are: Central Counterparty Clearing houses (CCPs) Swap Data Repositories (SDRs) Swap Execution Facilities (SEFs) Affirmation platforms Client* investment platforms Executing Broker/Dealer platforms Futures Clearing Merchant (FCM)/Clearing Member platforms

Interconnectivity of many independent entities requires standardized (open) messaging protocols so information can flow efficiently and the connectivity is cost effective for all entities involved

Interconnectivity requirements and concerns need evaluation using 3 dimensions:

Implementation time Cost Structural impediments (impacting liquidity)

*For the purposes of this presentation, Client is defined to include, without limitation, mutual funds, pension plans, separate accounts, collective investment trusts & hedge funds.

Trade interconnectivity workflow

Dealer
(Executing Broker)
Block level trade execution reporting

SDR
Affirmation platform

SDR

Asset Manager

Risk/legal entity allocation level reporting

SEF SEF 2

Block trade

Dealers FCM

Allocations
All entities must support open architecture to allow market participants to connect using their technology

CCP
Fund 1 Clearing Member/ FCM A Account 2 Clearing Member/ FCM B Fund 3 Clearing Member/ FCM C Fund 4 Clearing Member/ FCM D Client n Clearing Member/ FCM E

SEF 3 SEF n

Fund 1 Collective trust Account 2 Separate acct. Fund 3 Pension plan Fund 4 Hedge Fund Client* Fund n

Focus areas for todays discussion

CCP CCP Affirmation/ Allocation

Affirmation platforms connectivity by market participants for block level affirmation and fund level allocation of trades cost (tolls) Affirmation platforms must have connectivity to Clients and executing brokers to affirm trades - structural impediment Affirmation platforms need competition as currently only two viable options exist and act as gateways to the CCPs cost (tolls)

Real time reporting

SDR connectivity by required reporting entities time Number of entities required to report kept to a minimum for cost efficiency and data integrity

Block level execution

SEF connectivity by all market participants time and cost Multiple SEF connectivity by market participants to tap market liquidity - may fragment liquidity initially Universal/trade identifiers received or created by multiple SEFs in a standardized method cost and structural impediment

CCP / post-trade reporting

CCPs must have standardization across affirmation platforms and require affirmation platforms to support all asset classes time Affirmation platforms should be required to connect to multiple CCPs so Clients can use the affirmation platform of their choice time CCP connectivity to SDRs to provide post-trade reporting time CCP connectivity to make end of day pricing and curve data public and accessible to all market participants directly on a timely basis structural impediment and cost (tolls)

Clearing / Settlement
Connectivity enhancements by FCMs to accommodate new OTC derivative account class and connect to new CCPs - time FCM connectivity to Clients participating in cleared derivatives to provide electronic margin / risk reporting - time

*For the purposes of this presentation, Client is defined to include, without limitation, mutual funds, pension plans, separate accounts, collective investment trusts & hedge funds.

BlackRock investment process

Trade Execution
Trade Idea
Approximately 150 Investment strategies exist across 3,000 fixed Income funds Trade ideas are applied to applicable funds linked to an investment strategy

Post Trade
Revised allocation
Based on executed amount (not always 100% of ask), allocation to funds is optimized Allocation methodology includes post execution business decisioning arising due to: IMA restrictions on minimum amounts allowed Counterparty restrictions Affiliate broker / ERISA restrictions This process requires sufficient time so allocations are performed accurately to fill amounts before sending to the CCPs; otherwise, there will be unnecessary trade amendments

Maintenance
Clearing Risk compression
Risk compression Offsetting risk positions collapsed at a fund level to: Minimize counterparty risk Facilitate curve risk, stub risk management Operational maintenance Collapse multiple line items to a single line item Streamline collateral processing Improve operational efficiencies Trade compression performed at a strategy level to allow for: Consistency among funds with similar investment strategies Economies of scale benefit in performing this function across funds

Trade order & execution

Trade execution is initiated at a block level Block size consists of the amount required to maintain the investment strategy on a size appropriate basis across the funds linked to that strategy

Trades are assigned and cleared at the legal entity (Fund) level Clearing houses plan to offer the ability to net positions for like items at the fund level on a daily basis Allows for lower maintenance costs Allows for more efficient reporting and payment processing

Open Items: How will risk neutral trades such as tear-ups, compression trades be executed for cleared derivatives? Do all cleared trades require execution or processing through a SEF?

Client on-boarding to support interconnectivity

Bilateral OTC Model
Number of connections required per Client Provides liquidity EB 1 EB 2 EB 3 EB 4 EB 4 EB 8
3 8 EBs

Cleared model

Fund level Position reporting and collateral management

Supports operational efficiency for Clients Reduces counterparty risk for Clients

Clients FCM

Clients FCM

Clients FCMs FCM

CCP

CCP

CCP

3 CCPs

Client Fund 1 Account 2 Client Fund n An execution agreement must be in place with each EB and Client
Client collateral segregated

Client Fund 1 Account 2 Client Fund n

EB (2) 1 EB 2 EB n

EB (1) 1

Client collateral segregated

EB 2

Client collateral segregated

A clearing agreement must be in place with each selected FCM and Client A User Agreement may need to be in place with each CCP and Client for access to CCP clearing system Investment management agreements may need to be updated to meet the legal and regulatory requirements under the Dodd-Frank Act A minimum of 15 Client on-boarding documents will need to be executed

EB n

FCM 1

FCM 2

FCM n

Custodian 1
with multiple EB accounts

CCP (3) 1 CCP 2 CCP n

Custodian 2
with multiple EB accounts

Custodian n
with multiple EB accounts

ISDA Agreement and Credit Support Annex is in place with each executing broker/swap counterparty Tri-party custody arrangements are in place for Clients that opted for that arrangement or if legally required for the type of Client Client level collateral management is performed and position reporting is received on a periodic basis

Clients have access to deep and liquid markets though the ability to execute with multiple executing brokers that are providers of liquidity Clients are able to select an FCM independent of the executing broker with whom the trade was done to keep operational efficiencies in post trade processing and maintenance of trades There is consistency in process flows between CCPs, middleware providers and the technology is open architecture to allow for market participants to connect to them via their own technologies Documentation is in place to allow for trade flows to take place among the different entities

(1) Executing Broker is the swap counterparty (2) Executing Broker is not the swap counterparty (3) CCP is the swap counterparty for cleared swaps

Sequencing timeline
A market structure designed for all market participants is key for market efficiency
A phased approach based on type of market participant will fracture the design of an efficient market structure Market structure design for clients without clients will hinder adoption CDS and IRS products should be done concurrently
Timeline

Timeline key: Rule drafting Design and Implementation period Dealer adoption Client adoption
Q112 Q212 Q312 Q412 2013

Mar

Apr

May

June

July

Aug

Sept

Oct

Nov

Dec

Jan

Definitions Reporting
Risk Reporting
SDR block level)

April 15: Swaps, Swap Dealer, MSP, End User, SDR, SEF defined

Apr: SDR definition

Trade Reporting (Market reporting at

(EOD and time of trade risk reporting)

May: CCP governance

June: DCO Core principles

Clearing

CCP

Segregation and bankruptcy timeline Capital and margin for non-banks & Portfolio margining

Affirmation

Affirmation platform

Trade Execution

SEF NonSEF

Apr: SEF definition Voice trading for all trade types

June: SEF governance Voice trading for block-size only

Documentation
Implementation categories Trade workflow diagram Trade reporting Real time reporting

June: Clearing Addendums and Give Up Agreements and User Agreements

Oct: SEF documents

Trade execution Block level execution

Affirmation/Middleware Affirmation/ Allocation Affirmation platform

Clearing CCP / post-trade reporting

Risk Reporting Clearing / Settlement

Dealer
(Executing Broker)

SDR

SDR

Asset Manager

CCP
CCP

SEF
SEF

Dealers FCM Funds & Clients Clearing Member/FCM FCM

Block and allocation

Questions to be resolved for efficient implementation

1. How will execution of trade collapses such as offsetting trades (tear-ups) or line item collapses used to reduce operation risk take place for cleared products? 2. How best to address the documentation needs to onboard market participants including buy-side clients into the cleared environment for derivatives? Would an industry task force be able to timely agree on a neutral standard set of documentation? 3. Given the amount of work we collectively now know needs to get done, is there enough implementation time to clear trades as of July 2011? Any guidance from the Commission will help prioritize work load. 4. Will a block trade on a clearable product that is not executed on a SEF, be allowed to use a SEF to only process clearing the trade? This would allow the block trade to use the same process for clearing as the non-block trades that was executed on a SEF and help with operational consistency?