With generative artificial intelligence (genAI) popping up across the legal landscape, what will the impact be in the over-the-counter (OTC) derivatives market? The International Swaps and Derivatives Association, Inc. (ISDA) recently published their whitepaper “GenAI in the Derivatives Market: a Future Perspective”, intended to provide some of the answers, guidance and insight for market participants, regulators and technology providers regarding the potential use.

The OTC derivatives market is a fundamental part of global finance and facilitates risk management, hedging, market efficiency and price discovery for an array of assets and organisations. Although banks and financial institutions already deploy and use many forms of artificial intelligence (AI) in areas such as customer onboarding and risk management, genAI presents a truly transformative opportunity to dramatically alter traditional practices and drive innovation. 

GenAI is the most rapidly evolving area of AI and is becoming a useful tool across industries. It is a novel set of algorithms focused on automatically creating new and original content by utilising and unifying existing content - making something new with something you already have. By leveraging techniques such as deep reinforcement learning, it can simulate creative processes akin to human imagination. GenAI can be regarded as the next step in the evolution of AI and has the potential to reshape the financial markets and society more broadly. 

What are the potential use cases?

The whitepaper outlines promising use cases for the technology in the OTC derivatives market, such as derivatives documentation creation and summation, data analysis, regulatory compliance, market analysis and the development of derivatives markets in emerging markets. However, such innovation and efficiencies come with a number of challenges and risks - including data and security risks, IP and privacy concerns and bias and discrimination - and these will need to be addressed to realise the full potential of genAI in the OTC derivatives market. 

As the use of genAI increases due to the expanding access to genAI tools and the democratisation of AI through open-source frameworks, policymakers are having to explore their roles in its regulation, including in the financial markets. Such regulation will have a significant impact on the application and use of genAI by market participants.

As the global derivatives landscape continues to evolve in response to genAI, market participants will, at least in the short term, have to navigate the use of genAI in the absence of any specific regulatory frameworks, monitor for regulatory and legal updates and take steps to proactively alleviate and mitigate the risks and challenges posed. The whitepaper concludes with a set of proposed best practices which, amongst other things, encourages firms to create a comprehensive governance framework for their own use of genAI and to supplement genAI decision-making with sound human judgment, oversight and accountability for Gen-AI content or decisions. 

What are the opportunities for the OTC derivatives market?

Ultimately, the adoption of genAI provides an evolutionary opportunity for the OTC derivatives market to open new lines of growth and innovation, but its adoption is not without risk or challenge. Given the potential extensive influence that genAI could have in the OTC derivatives market, the whitepaper encourages market participants to harness genAI’s capabilities and embrace genAI-driven solutions in a considered manner to propel sustainable innovation, improve operational efficiency and risk mitigation practices and shape the future of the derivatives industry.