The notional value of derivatives from US market participants dropped to the lowest levels since the financial crisis in the second quarter of this year, the Office of the Comptroller of the Currency reports.

After the initial build-up of derivatives positions that followed the financial meltdown, Wall Street is starting to scale back its presence in this market, according to a report from the Office of the Comptroller of the Currency (OCC), a US regulator. At the end of June this year, the notional value of derivatives trades from US participants had dropped to $197,900bn from its $249,700bn peak in 2011, the lowest level since the third quarter of 2008 (see chart one).

US commercial banks and savings associations - derivative notionals by type, 2007-2015

The largest drop came from interest rate instruments, which declined by $50.9tn relative to the 2011 peak.

In a statement accompanying the report, Kurt Wilhelm, director of the financial markets group at the OCC, attributed the decline in part to trade compression. This process aims to eliminate unnecessary trades by gathering transaction data from dealers and boiling down individual counterparty exposures to their simplest forms. Extraneous deals are then taken off the books by mutual dealer consent, thereby reducing notional traded volumes. The report also noted that the decline has coincided with a general reduction in market volatility.  

This is reflected in how the type of derivatives held by banks has changed since 2011. While interest rate instruments still form the lion’s share of all derivatives at 77.7% (see chart two), their market share dropped as banks have started to seek profits elsewhere. Notably, they have accumulated more foreign exchange instruments, increasing their share by 5 percentage points relative to 2011, bringing the total to 16.1%. Banks also increased their holdings of two more specialised instruments; equities and commodities derivatives. Holdings of these inched up in the past four years, bringing their share of the market to 1.2% and 0.7%, respectively. By contrast, credit derivatives became less popular and now stand at 4.3%, down from 6.1% four years back.

The derivatives market in the US remains highly concentrated, with four banks – JPMorgan, Citibank, Goldman Sachs and Bank of America – responsible for 91.1% of the industry’s notional amounts. This is a slight change from 2011, when these four held 94.3% of the total.

The long-term drop in notional values has also been accompanied by a sizeable slump in profits from derivatives trading this year. After a promising first quarter, US banks saw a 28.1% drop in trading revenue for the second quarter. While the OCC is quick to point out that, historically, trading revenue peaks in the first quarter and then falls throughout the year, this decline was larger than usual in the post-crisis years.  

In his statement, Mr Wilhelm attributed the poor performance to pressure on revenue from interest rate and foreign exchange products.  

The low volatility environment and high levels of risk aversion that now hold sway over the industry are reflected in the reduced risk appetite at banks. Value at risk, which lenders use to indicate the expected loss over a specific period, nosedived across the board (see chart three) relative to 2011. While VaR is not necessarily comparable across different firms due to differences in calculation and scope it is useful to see how it evolves at a given institution over time. Some of the largest drops took place at Morgan Stanley, where the value at risk decreased $91m to $54m and Bank of America, which reduced its risk appetite by $168m, bringing it down to $61m. 

US commercial banks and savings associations - value at risk, 2007-2015

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