The Methodology Behind This Survey

The 2001 Derivatives Strategy Rankings were designed to be the most thorough and objective reader poll of leading derivatives dealers possible. In formulating our survey, we analyzed all the existing capital markets surveys and conferred with dozens of market participants.
The results, based on hundreds of votes by market participants, rank the best dealers in eight key categories: best overall dealer, best Euroland dealer, best interdealer broker, best credit derivatives dealer, best currency derivatives dealer, best interest rate derivatives dealer, best equity derivatives dealer, and best equity derivatives research house.
Voters were asked to skip areas that did not apply. Where certain categories received significantly fewer votes compared with others, they were either eliminated or supplemented with additional research and phone interviews by the staff of Derivatives Strategy.
This survey was conducted in the fourth quarter of 2000, solely in the U.S. markets, and thus reflects the opinion and experience of U.S. institutional and corporate investors, and the U.S.-based staff of derivatives dealers.

BEST OVERALL DEALER

Chase Chase wins for the third year running as a liquidity provider across all asset classes.

There's an old boxing saying that applies to the derivatives arena: in order to be the champ, you have to beat the champ. For the last three years, no global contender was up to the task. Chase stubbornly defended its title as best overall derivatives dealer with a ferocious combination of size and skill—and in the coming year, it looks like challengers will be facing an even stronger foe.

Chase attributes its success to a one-two-three combination of liquidity, client service and risk-taking. Deal flow is, without question, the foundation. "Our goal is to provide absolute liquidity all the time, across all the yield curves globally, regardless of market conditions,” says Don Wilson III, former managing director and head of global trading at Chase (now managing director and co-head of credit and rate markets at J.P. Morgan Chase & Co.). In the four years since it merged with Chemical Bank, Chase became a dominant derivatives market-maker in virtually every product and market.

That foundation allowed Chase to offer its end-user clients an array of value-added services—a task made easier thanks to a 1999 internal reorganization. Before that time, Chase divided its sales efforts by product, with, for instance, the foreign exchange, interest rate, commodity, equity and credit derivatives groups segregated and compartmentalized. The bank decided to integrate much of its derivatives product distribution under one global tent, allowing its sales force to offer a full range of cash and derivatives products. "We think that gave us a great advantage this year,” says Wilson. "When we talk to a client, we can move adeptly with the right people from a currency solution to a yield-curve solution to a commodity solution to a bond solution to an embedded option equity solution.”

Chase's global breadth helped as well. In Japan, for instance, it always had a strong commitment to foreign exchange products. In recent years, it has consistently ranked No. 1 in that arena, beating well-entrenched local competition. "That has had a knock-on effect for our yield-curve business,” says Wilson. "If you're the top foreign exchange bank for a large number of Japanese corporates, you have the ability to cross-sell and interweave other kinds of solutions for that market.” Similarly, in New York, Chase's linkages between its huge debt business and its interest rate derivatives business have been critical. "That is a huge source of operating leverage for us in terms of revenues,” points out Wilson. "If you're present at the inception of a syndicated loan or a big cross-border M&A transaction, you are going to get a big hunk of that derivatives business. Last year, we really came of age in terms of how well we managed that internal contract.”

The final element of Chase's attack: judicious risk-taking within its risk management practice. "We are in a risk business,” says Wilson. "It's part and parcel with what we do. But we do it in such a form and such a manner that it does not dominate the business. It's a consequence of the business, not a cause of the business.”

Of course, the merger with J.P. Morgan only adds to Chase's ability to offer global, integrated derivatives products and services to its clients. Assuming these two giants meld together smoothly, Chase may not relinquish its title as best overall derivatives dealer anytime soon.

BEST EUROLAND DEALER

Deutsche Bank With BT behind it, the bank is building a corporate culture with derivatives at the core.

There's one surefire way to tell when a bank's derivatives operations are going well: the division heads get seats on the board.

At Deutsche Bank, there's been a lot of that happening lately. Last June, Edson Mitchell, then head of global markets, including fixed-income and currency derivatives, and Michael Philipp, head of global equities, which includes derivatives, were named to the board, while Josef Ackermann, head of Deutsche Bank's global corporate and institutions division (GCI), was elected board spokesman designate in September. Derivatives are bigger at Deutsche Bank than they've ever been.

That's not to say the bank's success happened overnight. In June 1999, Deutsche Bank acquired Bankers Trust—a move that propelled it to the upper reaches of the European derivatives scene and led to its selection as top Euroland dealer last year. "The BT acquisition definitely helped us,” says Michele Faissola, head of European over-the-counter derivatives in London. "They had an enormous corporate culture that was derivatives-focused, and we inherited that culture with the merger. Derivatives have always been at the heart of our global markets strategy, and are increasingly becoming a primary focus within GCI.”

And it appears there's room for far more growth. According to Faissola, European corporates are only now starting to sink their teeth into derivatives, and will use derivatives increasingly for asset/liability management and corporate financing. "Deutsche Bank is in a favorable position to capture these increasing corporate business flows, and we have seen a growing number of requests in the derivatives sector,” he says.

A case in point: many European corporates have been arbitraging the difference in interest rates between the Swiss franc and the euro—assuming the foreign exchange risk in return for cheaper financing. "The Swiss franc has been considered a safe haven for some time now, and when there was a semi-panic during the summer oil shortage and the euro troubles, it became a major play,” says Faissola.

European fund managers are also cottoning on, as regulators on the Continent take a more relaxed stance on the use of derivatives to improve returns. "The fund management industry is using more derivatives for duration management and macro transactions,” he says. In Germany, for example, fund managers have started using interest rate swaps to offset credit risk on fixed-income investments.

All of which could well make for more derivatives mavens on Deutsche Bank's board.

BEST INTERDEALER BROKER

GFI The firm garners wide support for its efforts in supporting illiquid markets and its hybrid approach to electronic trading.

Everyone in the derivatives business knows that liquidity begets liquidity. But, oddly, most interdealer brokers are unwilling to venture into new derivatives markets until their cash businesses are chugging along. The result: nascent derivatives markets are plums ripe for the taking.

GFI takes a different approach—it plows ahead with its derivatives business, and lets the cash business follow. That strategy has propelled the New York-based brokerage to the top of the Derivatives Strategy Rankings.

In emerging markets, for instance, GFI deliberately sought out the least liquid markets first, because it figured that's where it would be needed most. Same for credit derivatives.

"We were an early mover there,” says Michael Gooch, GFI's chief executive. "We established a historical database of credit derivative trades and later built businesses in asset swaps and corporate fixed income to fit in with an overall approach to credit trading. Being involved in illiquid markets means customers have a reason to keep coming back to us. Chances are we probably did the last transaction and we'll know how to do the next one.”

Similarly, GFI was one of the few interdealer brokers to recognize that, while electronic trading may be the wave of the future, voice brokers are still needed to attract liquidity. GFI's hybrid approach has proved successful while purely electronic efforts have struggled.

GFI's boldness doesn't end with new products and delivery methods, however. It is trying to cultivate a broad new swath of clients as well: end-users. How? By offering not only voice and electronic brokerage, but also market data and tools. Its recent acquisition of software vendor Fenics should help these efforts by allowing it to provide on-line pricing and trading to corporates and other smaller end-users.

"We feel that if someone wants to see our data, we want them to do it on our platform,” says Gooch. "That's where we can add value. We're not just an interdealer broker moving into the corporate marketplace. We're a data supplier and we can provide access to risk management tools. We're more than just a broker now.”

BEST CREDIT DERIVATIVES DEALER

J.P. Morgan The obvious leader in credit derivatives, Morgan's group will be even more dominent now that it has combined with Chase.

J.P. Morgan was asked to respond to so many awards for credit derivatives this year that it prepared a five-page document in advance explaining the reasons for its success. It makes for convincing reading.

Consider, for instance, that the firm holds a 55 percent market share of outstanding credit derivatives volume among commercial banks in the United States, has enjoyed a 100 percent increase in monthly transaction volume year-over-year, and has increased its staff to more than 170 professionals. Moreover, its Bistro, Sequils-Mincs and Zing issues are enjoying unprecedented success, and its e-commerce initiatives—including its proprietary Orbit page, which provides customers with firm pricing, and its investment in the Creditex platform—have proven quite fruitful.

Now, after the merger with Chase, the future of J.P. Morgan's credit derivatives practice is perhaps even rosier, since the two institutions combine leveraged finance and derivatives capabilities on a gigantic scale, creating growth opportunities for high-yield credit derivatives.

Blythe Masters, head of North American structured products and asset-backed securities at J.P. Morgan, is enthusiastic about the post-merger future, but concerned about broader market issues—such as the debate over how to address debt restructuring as a credit event and, even more important, the possibility that regulators will disallow capital relief provisions should the industry press ahead with efforts to remove debt restructuring from credit derivatives documentation. (For a broader look at this issue, see "What's A Default?,” on Page 22.)

"You can see why a regulator—and a bank portfolio manager—would want to keep the restructuring definitions comprehensive, but there are issues on both sides of the argument,” says Masters. "The dealer community doesn't need hair triggers written into credit derivatives documentation that could continue to leave open the possibility of inadvertently introducing market risk into credit protection contracts.”

She predicts that, with the help of ISDA, a new definition will reduce the specter of unmanageable market risk, but that portfolio managers will continue to demand contracts with restructuring provisions included, so that contracts will trade both with and without restructuring. But she doesn't automatically see that as a bad thing. "The only really important thing is standardization and useful contracts that promote liquidity for users,” she argues. "The last thing the credit derivatives market needs right now is the reintroduction of unmanageable basis risk and uncertainty over contractual obligations.”

BEST CURRENCY DERIVATIVES DEALER

Citibank/Salomon Smith Barney Citibank/Salomon turns currency derivatives into an issue for shareholders and senior management.

What happens when 12 currencies turn into one while on-line trading sites pop up faster than late-summer thunderstorms? For many currency derivatives dealers, panic and chaos. For Citibank/Salomon Smith Barney, a chance to add value like no one else—by providing unique risk management services on top of steady deal-flow.

"We are turning currency derivatives from a swap-based product into a risk- and capital-structure-based concept,” says Paul Deards, co-head of derivative capital markets. "We try to show corporate clients how currency derivatives, within the framework of an enterprise-wide risk management strategy, can stabilize earnings. In that sense, we are making the use of currency derivatives by corporates a shareholder issue, and thus a senior management issue as well.”

Sounds a bit like enterprise-wide risk management (EWRM), you say? Perish the thought. Citibank/Salomon likes the idea in theory, but not in practice. The best approach, says Deards, is to apply the principles of EWRM to a smaller area, such as currency derivatives. "It's too much of a nuclear bomb to solve basic risk management problems with EWRM, and it's too easy to lose sight of what the real issues are. Citibank/Salomon has always seen the role of derivatives as understanding the enterprise but then extracting various risk silos from within it, the premise being that more companies are beginning to see Risk—with a capital R—as a real discipline.”

This concept—adding value in a commoditized business—is how Citibank/Salomon plans to keep future competition at bay. Especially since spreads have narrowed beyond anyone's wildest dreams.

"The reality is that the future for derivatives people is very challenging,” says Lynn Feintech, co-head of derivative capital markets. "When we started our business 15 years ago, we were able to earn wide spreads on one-off transactions. Now, we're lucky to make a basis point on a plain-vanilla product. In the future, we're likely to see much of our business migrate onto the Internet. The question is, How do you add value? Our answer is to elevate the dialogue and operate on a higher level. We want to be problem solvers.”

BEST INTEREST RATE DERIVATIVES DEALER

Chase In interest rates, the volume leader has managed to boost profits despite shrinking margins.

Last year, when Chase won our interest rate derivatives award, it said a major reason for its success was size. In the fixed-income world, size counts, and Chase was a behemoth.

This year, of course, Chase is even more massive, having merged with J.P. Morgan. It was a winning move: as fixed-income markets become ever-more commoditized, the banks with the most ballast prove to be the least shakable. "Being big has meant that our profitability has gone up even as margins in the interest rate derivatives business have gone down,” says David Puth, head of global trading in the United States. "We can make money while others are finding it hard to do so. And the merger with J.P. Morgan means our risk management and distribution network will be unsurpassed.”

But don't accuse J.P. Morgan Chase & Co. of being a one-trick vanilla-swaps pony. Far from it.

Despite an emphasis on expanding its flow business, Chase has also had a stellar year in structured products. "Our attitude is that innovation attracts flow,” says Puth. "Our exotic interest rate options desk in the United States had a particularly strong year, and we plan to push forward in this field to attract business across the board—in both exotics and plain-vanilla products.”Despite an emphasis on expanding its flow business, Chase has also had a stellar year in structured products. "Our attitude is that innovation attracts flow,” says Puth. "Our exotic interest rate options desk in the United States had a particularly strong year, and we plan to push forward in this field to attract business across the board—in both exotics and plain-vanilla products.”

BEST EQUITY DERIVATIVES DEALER

Morgan Stanley Dean Witter MSDW's well-oiled equity derivatives machine is operating on all cylinders in a variety of products.

More people are using equity derivatives, there's more interest in complex structured products, and there's greater demand for cross-market coverage than ever before.

For a dealer, that means you have to be global, innovative and responsive to compete in today's equity derivatives marketplace, says Richard Gould, head of global derivatives sales at Morgan Stanley Dean Witter in New York, our top-ranked equity derivatives dealer.

"I don't think the era of equity derivatives boutiques is necessarily over,” he says. "But I think that being able to serve your clients with an array of tools and markets at your fingertips is what becomes most valuable to your clients and creates winners. If there's one thing we are, it is client-focused and globally capable.”

When Morgan Stanley merged with Dean Witter in 1997, pundits marveled at the plug-and-play distribution network that was created. Now, the engine is racing on all cylinders. In the United States, the best-developed equity derivatives market in the world, most of MSDW's flows have been in exchange-listed products, with a dramatic increase in open interest for exchange-traded funds as more asset managers get derivatives-savvy.

"Mutual funds are getting more sophisticated, there's no doubt about it,” says Gould. "With the elimination of the short-short rule and the onset of a volatile market, the demand for hedging tools is on the increase.”

Equity derivatives businesses are also being melded into underlying cash businesses as increased flow helps commoditize products and derivatives continue to be demystified. "That we're seeing equity derivatives work more closely with equity cash products is a sign of things to come for all derivatives markets across the board,” notes Gould.

BEST EQUITY DERIVATIVES RESEARCH HOUSE

Merrill Lynch A research army of 13 analysts powers a strong effort in both OTC and listed markets.

Merrill Lynch has tripled the size of its global equity derivatives research team during the last three years. It also dramatically boosted its standing among our survey participants this year, unseating Goldman Sachs as top equity derivatives research house.

With 13 analysts currently on board, the Merrill team focuses primarily on equity derivatives strategy—that is, futures and options—and portfolio trading, which has flourished over the last few years as index-related products like exchange-traded funds (ETFs) and unit trusts have exploded. The equity derivatives strategy side tries to help clients—a range of institutional investors that includes mutual funds, pension funds, hedge funds and private clients—to seek out relative value, understand trends in implied volatility, discover fair value and make the most of rollover trades. The portfolio trading area looks at how indices are impacted by exogenous events such as M&A activity, and examines changes in index composition.

Michael Maras, global head of equity derivatives research, runs Merrill Lynch's global equity derivatives team out of the London office. The U.S. group includes Steve Kim, Silvio Lotufo, Diane Garnick and John Davi.

"Benchmark-oriented portfolio managers may have to buy or sell a particular stock entirely on the basis of whether it is moving in or out of an index,” says Lotufo, a vice president and equity derivatives strategist. "Likewise, individual stock pickers are interested to know whether there will be additional selling or buying pressure on a stock if it is being removed from an index or being newly included. We advise our clients as to when is a good time to buy or sell relative to these market pressures.”

Lotufo says he is particularly excited about the possibility that ETFs and increased M&A activity will soon migrate to Europe and Asia. "We're already seeing the beginnings of these trends, especially in Europe, and it bodes well for us,” he observes. "These are the trends that propel demand for equity derivatives research and the kind of market insights that offer investors real added-value.”