Which Parties are Involved in a Transaction?

Background

Which parties are involved in a hedge transaction?

Executing and settling transactions requires expertise, liquidity, and compliance

Transactions come with certain risks that must be well-understood and well-managed before, during, and after a trade is executed.

Let's first explore the key parties involved in a transaction:

1. Commercial End-Users (“Companies”) manage commodity price volatility through financial hedges;

2. Financial Counterparties (“Banks”) provide liquidity for and settlement of hedges;

3. Commodity Trading Advisors (“Hedge Advisors”) ensure hedges are appropriate, fairly priced, and properly managed for companies; and

4. Swap Execution Facilities (“SEFs”) provide a trading platform to ensure regulatory compliance for hedge execution.

The interactions are regulated by the Commodity Futures Trading Commission (“CFTC”) under the Dodd-Frank Act. The National Futures Association (“NFA”) is designated by the CFTC to drive regulatory compliance.

Below is a simple illustration:

Companies

Companies experience commodity price volatility that impacts profit margins and cash flow. Financial derivatives, otherwise known as “hedges,” are used to minimize this volatility.

Banks

Financial counterparties ensure there is market liquidity for hedges by:

	Serving as counterparty to each trade;
	Proving margin capital;
	Managing the risks associated with the underlying derivatives;
	Laying off the risk in the market as appropriate; and
	Ensuring certain regulatory reporting is performed.

Hedge Advisors

Given the complexity of hedging, hedge advisors represent companies in the process by:

Let's first explore the key parties involved in a transaction:

1. Providing an unbiased view of commodity pricing environments;

2. Making recommendations on otherwise complex derivative structures;

3. Negotiating the price of these derivative structures based on fair market value;

4. Storing and valuing hedges to ensure they are being settled properly; and

5. Providing technology to view managed risk across all banks.

SEFs

The Dodd-Frank Act introduced SEFs to provide a regulated marketplace through:

	A detailed rulebook to define the process and tools for negotiating hedges;
	Consistent and timely pre-trade communications;
	Detailed audit trails for each trade that would enable full trade reconstruction;
	Performing surveillance activities to detect potential market manipulation; and
	Requiring certain reporting of hedge transactions.

Executing and Settling Hedges

Working together, these four parties execute and settle hedges:

	Companies identify certain commodity price risks;
	Hedge advisors define a strategy and potential hedges to manage these risks;
	Once the company agrees, the hedge advisors publish the trade on a SEF;
	Banks are notified of the trade by the SEF and actively place bids/offers;
	Hedge advisor selects bid/offer based upon company direction;
	Bank issues confirmation and hedge advisor works with the company to verify;
	Hedge advisor works with the company to value the hedge throughout its life;
	Bank provides settlements as hedge expires;
	Hedge advisor confirms the accuracy of settlements;
	The company pays/collects based upon the performance of the hedge.

Working Together for a Fair and Efficient Market

Companies, banks, hedge advisors, and SEFs each play a critical role in operating a fair and efficient marketplace. In the event someone tells you something is unnecessary, below are specific reference materials that will allow you to engage and make a proper assessment:

Reference (links)

		Are hedge advisors necessary?
		If hedge advisors must use SEFs, should I execute directly with the bank?
		Are SEF fees appropriate?
		Will AEGIS SEF create conflicts with the original AEGIS business model?

About the AEGIS SEF

AEGIS SEF (US) LLC, a subsidiary of AEGIS Hedging Solutions, is a Swap Execution Facility approved by the Commodity Futures Trading Commission (“CFTC”). AEGIS SEF operates markets for commodities, interest rate swaps and other instruments. AEGIS SEF offers a venue for trading in uncleared bilateral OTC swaps through a central limit order book (CLOB) and request for quote (RFQ) system. For more information, please go to https://aegis-hedging.com/swap-execution-facility. The AEGIS SEF is headquartered in The Woodlands, Texas.

Commodity interest trading involves risk and, therefore, is not appropriate for all persons; failure to manage commercial risk by engaging in some form of hedging also involves risk. Past performance is not necessarily indicative of future results. There is no guarantee that hedge program objectives will be achieved. Neither this trading advisor nor any of its trading principals offer a trading program to clients, nor do they propose guiding or directing a commodity interest account for any client based on any such trading program. The Commodity Futures Trading Commission does not pass upon the adequacy or accuracy of this Advisor’s disclosure and has not reviewed or approved the contents of this webpage.