Voice Brokers – Judges on American Idol or The Voice?
Definition: Interdealer brokers for OTC derivatives such as Forex, Commodities, Futures and Swaps
Most of us worry about automated trading – high frequency trading where computer algorithms govern the process, i.e., another flash crash. Would you believe that the US government is more concerned bout the good old-fashioned way of trading?
The term, “voice brokers” conjures up an image from TV shows and movies where brokers mill around on a stock exchange floor waving pieces of paper in the air while shouting out orders. It’s not that chaotic now, but voice brokers indeed use their voices to create orders, usually on a phone or on squawk boxes, an intercom speaker on their desk that they use to communicate with banker clients. They deal with trillions of dollars of OTC (over-the-counter) derivatives every day.
The US government began closely scrutinizing voice brokers this year because it suspects they may be rigging Forex (i.e., currency exchange) deals. This scrutiny was set in motion by the Libor scandal early this year, where brokers from around the world were accused of separately and perhaps jointly trying to rig Libor (London central bank) lending rates. The Financial Times ran an in-depth article, “Libor probe shines light on voice brokers’ on February 17, 2012.
Voice brokers are also called “interdealer brokers”. These brokers used to discuss prices asked by buyers and sellers but now computers can do that. Instead, inderdealer brokers make deals on behalf of clients by matching buyers and sellers for each particular transaction. They have information about all the buyers and sellers in their market.
A conflict of interest arises because interdealer brokers have banks paying them commissions. Even though they serve traders at a lot of banks who want to do swap deals, voice brokers will often alert the bank paying them a commission first or give that bank more details than other clients when a lucrative deal comes across the voice broker’s desk.
Finra (the US Financial industry Regulatory Authority) brought a $2.8 million suit against ICAP, the world’s biggest interdealer, when a former employee attempted to influence fees on credit default swaps in 2009. The Financial Times reports that Finra filed more cases against voice brokers in 2010.
OTC trading could be fully automated and it would be more transparent to traders, but powerful interdealer brokers are raising their voices against that. Voice brokers have lobbied hard against the Dodd-Frank bill, hoping that their privileged jobs and commissions can be saved when the US reforms credit default swaps trading. For how these brokers plan to cope with the coming changes from Dodd-Frank, see “Can the boutique brokerage survive Dodd-Frank?” (Original headline: Endangered species?”) posted May 3rd at Risk.net.