Fortuna (https://www.fota.top), a start-up based in Singapore aims to revolutionise the OTC market and solve “several core problems” along the way. According to their whitepaper the OTC market:

• Lacks products innovation and variety
• Lacks trust between participants
• Lacks liquidity
• Is operationally inefficient

Product innovation

For an illustration of the complexity of the OTC market you can view the official ISDA product taxonomy here: https://www.isda.org/2018/02/20/final-isda-taxonomy-v1-0-and-final-isda-taxonomy-v2-0/. This top level catalogue of product names is really a form of window dressing to make the product taxonomy digestible in the real-world, as within each of these named contracts exists the flexibility to customise each product to suit the end-users needs. The OTC market has taken around 35 years to arrive at this range of products, and has an XML based description in FpML which enables systems to express the intricate details of each executed contract.

Fortuna believes that there is a demand for hedging macro risks such as monetary policy, tariff policy and presidential elections, which would enable commercial end-users to hedge these outcomes. The platform supports two types of contract 1) a personally design contract and 2) a standard ‘locked’ contract defined by a third party such as an exchange. In this way the platform aims to enable firms to manage risks which aren’t currently catered for and in a more granular way, reducing initial margin requirements.

Creating Trust

It is well understood that to trade is to trust – the global markets don’t work if firms fail to honour executed contracts. Historically in the OTC markets trust was expressed through credit limits, then collateral management and lately through mandated margining of uncleared business. Since 1999 with the beginning of SwapClear trust has increasingly been provided by the mechanism of central clearing, with CCPs springing up around the world to serve users of OTC products.

Fortuna believes that there is a lack of trust from

• Unsophisticated end-users in agriculture and manufacturing
• That the current OTC market lacks data integrity and transparency leading to poor supervision
• That using ‘offline signatures’ for contracts isn’t a strong enough way to prove the existence and obligations of an OTC contract
• That there ought to be a central automated default management mechanism to handle bankruptcy

It could be perceived that these points are arrived at backwards to justify the use of a central distributed ledger to record market transactions. The Dodd Frank Act and EMIR have both transformed regulatory reporting in the OTC market, along with mandated margining and clearing. Since the 2000s SwapsWire (now MarkitSERV) addresses the initial confirmation process (using FpML) to bring greater clarity to the confirmation process, as did the DTCC Trade Information Warehouse for the credit market.

For business in a clearing house, the default management mechanisms are well understood and tested regularly. In the uncleared market the ISDA documentation framework based on their Master agreement and their opinions of enforceability in courts around the world provide the basis for default management. Fortuna suggest that ‘smart contracts’ will eliminate credit risk by providing 24-hour automated margining based on the central single record of each trade. In addition, the Fortuna platform will keep a permanent record of all trading and settlement activity by firms, providing a transparent credit record.

As for educating end-users, that can only come from offline training and education, rather than a blockchain.

Figure 1- Global CCP activity

Liquidity

Observers of the OTC market will know that the amount of business being executed shows no signs of reducing, perhaps new regulations have helped that trend by pushing products towards clearing and mandated margining.

Fortuna see a number of barriers to increased liquidity:

• Foreign exchange controls between China and the global market
• The inability of end-users to create personalised contracts to hedge the specific risks they face
• The absence of trust (see above)
• The knowledge barrier for firms needing to understand the complexity of the OTC market
• The ‘high’ amounts of Initial Margin required for some contracts

Their platform is intended to open up trading by enabling counterparties to invent their own tradeable products, and trade directly ‘peer to peer’. In addition, the platform would rely upon a virtual currency FOTA to express prices and collect margin, making the platform independent of any national currency or regulations. By removing any barrier to creating your own personalised ‘more granular’ contracts, these are hoped to have a lower IM requirement. It is assumed that the smartness of the contracts will derive the IM figures but the whitepaper doesn’t explain, as the business doesn’t claim to become a replacement for clearing houses.

Operational efficiency

Most users of OTC products would agree that creating a processing environment of systems and people to participate in the market isn’t simple or cheap. ISDA recognise this as the next fundamental challenge for their members and have launched the Common Domain Model project as a new way to streamline OTC operations. The CDM project hints at distributed ledger as a possible method to record transactions and their lifecycle events, and few would disagree that removing reconciliations and increasing the fidelity of data is a worthy goal.

The Fortuna platform doesn’t claim to address the many back-office processes which take place in the existing OTC market, but assumes that by recording the entire market on a ledger and allowing the ‘smart’ contracts to run themselves, that participants will focus all their operations on responding to the calls from the ledger for FOTA and settle outside of the global cash settlement system.

In Summary

In my opinion, the FORTUNA business has worked backwards from a technological widget ('a blockchain') towards a complete reinvention of the large and complex OTC market. Whilst the intention to improve efficiency is good, the business has taken aim at such a large range of problems, it may fail to solve any of them.

Note

Multiple attempts were made to make contact with the team at Fortuna to add to this article, without success.