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Applying Settlement Prices – CTRM Design Considerations
This page has considerations for design around ‘Applying Settlement Prices’ in the context of CTRM system design.
By ‘Applying Settlement Prices’ we mean, taking the settlement prices, also called closing prices, and applying them to trades for the purposes of calculating payments.
This is sometimes called ‘Resets’ or alternately ‘Price Fixing’. We avoided using those terms as it isn’t clear what is considered industry standard. So tried to use a term that is descriptive of what is happening.
A single payment can be based on the average of multiple settlement prices, e.g., over a month.
Example would be for a fixed-float commodity swap, the fixed price side doesn’t need settlement prices, e.g., if the fixed price is $51/BBL for crude oil, that is known at the time the trade is originally done. However, the settlement prices won’t be known for potentially several months, i.e., whatever future month the swap trade is for. E.g., if the current day is June 3, the trade could be pricing over the month of December.
The two main approaches are:
2.1) Copy the price value, each day, onto the trade. E.g., if you have a 1000 trades that need a price for December 1 (assuming that is a good business day) and the price for that date, i.e., the closing price from the price publisher for that day is $52, then you would copy that price 1000 times. Plus have it in the system saved with the table that holds settlement prices.
2.2) Alternately, you can save the source settlement price just once. And then pull it in whenever you need to do a calculation, i.e., to calculate the payment.
Keep in mind that a deal could have some of its prices for an average be ‘known’, meaning the settlement prices already published and loaded into the system, and the remainder would still be ‘unknown’, which means to get a MTM for the deal, you would need to use projected prices, e.g., from a ‘forward curve’ .
3.1) For the above two approach, if you go with a design based on the first approach, you’ll need to have a mechanism to correct trades for when prices change. Meaning settlement prices change. E.g., if you are on December 15, and you realize that the December 3 price was loaded into the system incorrectly, you need a way to correct it on all of the deals, e.g., 1000.
This can be a bit of a pain, so maybe copying the price onto each deal isn’t the best approach.
Maybe a hybrid approach is best, where you can specify that prices would be copied to some deal, presumably so that they could be overridden as a one off, and in other cases, would come from a common source, i.e., the settlement prices table.
3.2) You do need to keep in mind that you need a way to finalize the payment amount, which would be the average of the prices for the month or just for a single day (non-averaging). Finalize in the sense that once an invoice goes out, you don’t want the system to automatically change/update the payment just because you load a new price, new meaning updated, into the system. You may need a process to handle adjustments for prior periods or some way to resent invoices.
In other words, applying settlement prices, i.e., the design, should include a specific design not just for when things work, but also when there are issues, i.e., corrections need to be made.
3.3) As part of the deal design, you need to indicate the publisher (a.k.a., ‘reference source’) as there can be multiple publishers for the same ‘price index’.
Alternately, there can be multiple published prices on a given day. For example, for gold you might have an AM price (morning), a PM price (afternoon) or a price that is the average of the two. i.e., it is not enough to specify the ‘price index’ for the trade, you also need to specify, i.e., upon trade entry, the reference source. And then use that combination for when the system is looking up the correct price, along with the pricing date (‘reset date’) and the contract month (expiration date or first of month date) where applicable.
Introduction to CTRM
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