Building on Microsoft’s InfoPath, Ira Fuchs has designed a way to automate one of the more challenging derivatives instruments – over-the-counter Credit Default Swaps.
“Take a glance at the complexity of privately negotiated derivatives documentation and you can readily understand why it has resisted automation,” said Fuchs, founder of XML Associates and executive director of the Center for XML and Web Services Technology at City University of New York.
Designed to let holders of credit instruments mitigate their exposure to risk, Credit Default Swaps have become one of the hottest financial products. The derivatives market has grown substantially, and so has the cost of processing derivatives transaction documentation. In 2002 financial experts figured that banks spent over $1 billion processing derivatives transactions.
“A Credit Default Swap (CDS) is one of the more complex derivatives instruments,” said Fuchs. The XML schema for a CDS, developed by the International Swaps and Derivatives Association (ISDA), contains nearly 400 required or optional information components, whose composition are dependent on numerous contingencies.
“With such a large set of variables, information, choices and dependencies, you can see why privately negotiated derivatives transactions are difficult to automate,” he explained. “There is no room for ambiguity or material omissions in a contract whose purpose is to consign substantial financial risk.”
In July 2004 the ISDA took a big step forward toward facilitating the automation of derivatives transactions when it released the XML Schema version of the Financial Products Markup Language (FpML) version 4.1.
That made a good fit with Microsoft’s InfoPath, a form tool that can work directly with the XML schemas for an industry defined vocabulary such as FpML. InfoPath is a member of the Microsoft Office suite that automates and streamlines the process of generating and gathering information. The information can then be integrated with a broad range of business processes and applications because InfoPath formats the information as a structured XML document based on the underlying schema, which in this case is FpML. Any other XML Schema enabled application can now readily process that structured information.
In July Fuchs began working with FpML and InfoPath to investigate how InfoPath could be used to automate the creation and exchange of CDS documentation. “InfoPath imported the FpML CDS schema and a form was created that bound the nodes in the schema to form template controls, the objects that control the way information is entered, picked, generated or displayed in the form, so that they conform to the definitions defined in the schema as well as providing assistance to the user filling out the form,” said Fuchs. “The schema dynamically drives the form’s behavior to help the user negotiate the choices in creating derivatives documentation by presenting only the relevant form sections needed based on the contingencies of information already entered into the form.”
Fuchs calls his application FpML AutoWriter. “Another way that InfoPath automates the process of creating complex documentation is by pulling together the numerous sources of information needed to define a CDS instrument such as the codes for banks, currencies, securities and exchanges,” he explained. “The form can automatically access and retrieve information from databases, Web services and XML document files.”
FpML AutoWriter is integrated with Microsoft’s SharePoint Services, a Web-based collaborative environment that comes bundled with Windows 2003 and is used to manage the storage, organization and distribution of the CDS documents created with FpML AutoWriter.
“This is a really cost-effective solution since users already own the underlying technology,” said Fuchs. InfoPath is included in Microsoft’s Office Professional Enterprise Edition 2003, or it is available as a relatively inexpensive addition to other versions of Office. “Together, InfoPath and SharePoint provide an integrated infrastructure that FpML AutoWriter builds on with a modest amount of configuration.”
“FpML AutoWriter is indicative of the powerful role the Microsoft Office System can play in automating complex financial transactions,” said Kenny McBride, managing director for securities and capital markets at Microsoft. “The ISDA’s creation of the FpML schemas demonstrates the significant value of an industry initiative to create a standardized vocabulary based on a standard methodology – XML Schema. When applications such as InfoPath support the same methodology, firms like XML Associates can leverage InfoPath to create an efficient solution to a very costly industry problem – generating the documentation for and processing the unique, one-of-a-kind contracts that exist in the OTC derivatives market. Solutions such as FpML AutoWriter dramatically improve workflow, reporting risk management, productivity and the overall employee and operational experience.”
ISDA has developed an FpML Editor/Viewer that offers some of the functionality of FpML AutoWriter, said Karel Engelen, policy director at ISDA.
“The main difference is that AutoWriter provides validation rules,” said Marc Gratacos, XML Specialist at ISDA. “FpML AutoWriter generates its interface directly from the schema because InfoPath translates the actual schema into the fields on the screen, and that produces a lot of advantages.”
“FpML AutoWriter is a complete ready-to-use solution,” said Fuchs. “Users don’t have to know FpML or XML to use it. If you understand the derivatives market and can order a book from Amazon’s Web site, you can use this application. While it is simple to use, it can also be easily customized and extended.”