OTC Trade Lifecycle (2024)

Mustufa Petiwala

Trade Lifecycle - One of the most common questions asked in an Investment banking interview. So what it is? A lot of people studying finance knows it, but then I often seen alot of them only partially give correct answers. Lets find about it !!

As the name suggest, life cycle, it means total journey of the trade from Front Office(FO), Middle Office ( MO) to the Back office (BO). It also includes everything where the trade is involved or used as part of reporting. Its like if I ask an individual about his life, he will say everything what he is done and got involved right from the time he is born, that's how you need to explain for the trade.

We will look at OTC trade. It gets traded at the Front office by two parties may be over the phone or organized platform. Once this is traded, FO assistance send across this trade details to all parties involved or the system does it via STP used for trading. This information is send across to Middle Office(MO) who in turns books the trade completely and send across the trade to BO. BO team of both the parties are responsible to ensure the trade is booked correctly by reaching out to cpty to confirm the trade details, settlement of trade amounts, exchanging collateral, reconciling the positions throughout the life of the trade with by liaising with MO and FO.

Once the trade is booked, valuation has to ensure it gets valued correctly by EOD based on various prices and curves and accountants has to ensure all the relevant reporting goes to MO with the P&L s of the portfolio including realized and unreleased P&L next day for the trade and other reports. Major role of Middle Office is doing risk management and ensuring the trades are valued correctly that generates P&L details which are reported to FO to assist them in the trading the next day and on an daily basis. Middle Office identifies the credit risk, market risk and the operational risk of the trade by using various risk models. Based on the reports, MO determines the the credit risk with the cpty by identifying whether they haven't breach their risk limits with one single cpty, how currency, prices, interest rates movement affecting the market risk for the trade and portfolio, whether there are any operational risk due to the bookings of any trades.

Valuation of the trade, identifying the P&L, identifying the risk exposure and function of MO and BO activities mentioned above goes on everyday until the trade is matured, Terminated/Novated before the Maturity, if its an Option then exercised or if its an Credit Default Swap, affected by Credit Event.

Now you see how the trade flows from from Front office to Back office and how its helpful in determining the risk. Each function throughout the life of the trade plays an important role and these processes are so closely connected that at any stage if something gets missed, it gets caught by other functions who are part of the trade.

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