Buy-Side Should Be Allowed To Provide Liquidity to CCPs

Shanny Basar

The European Association of CCP Clearing Houses has asked the European Commission to consider allowing highly creditworthy buy-side firms to act as potential investment counterparties to central clearers.

Last October the EU Commission launched a Call for Evidence and requested comments by last month on the benefits, unintended effects, consistency and coherence of more than 40 pieces of legislation that has been adopted in direct response to the 2008 global financial crisis. EACH said in its response that certain buy-side firms should be allowed to enter into repo transactions with CCPs for cash balances against high-quality liquid assets. “This would allow CCPs to further diversify their investment counterparty risk profile while providing additional liquidity to the repo market for buy-side institutions,” added EACH.

The association said Emir, the European central clearing regulation, does not allow more than 5% of cash collateral, calculated over an average period of one calendar month, to be deposited on an unsecured basis – leading to CCPs having to rely on the repo market to maintain the liquidity required for business as usual purposes.

“This means that large CCPs will take up a large part of the repo market on a daily basis, therefore reducing the ability of other market participants to use this source of liquidity,” added the response.

EACH continued that CCPs should be allowed to further diversify the range of secured investments to money market funds, under certain conditions, in order to release some pressure from the repo market

The response said some European CCPs find that US clearing members meet margin calls late in the day largely in cash and CCPs therefore need safe, liquid and reliable outlets to securely invest these cashflows. “The prohibition under Emir imposes material constraints on cross-border CCPs and can result in an increased risk profile if such CCPs are unable to locate high quality secured investment capacity for clients’ and members’ money,” added EACH.

The association continued that some Emir provisions create an uneven playing field for EU counterparties over non-EU entities.

“In the global derivatives market, the fact that the clearing obligation has already been implemented in jurisdictions like the US puts the EU at a disadvantage,” added EACH. “Suggested remedies in the opinion of EACH members, consistency and harmonisation of policy initiatives to avoid regulatory arbitrage and to ensure a level playing field across CCPs globally should be the primary objective.”

The response said European regulators need to quickly finalize the regulatory process for the proposed clearing mandates and ensure this also happens for future proposed mandates. Certain interest swaps will have to be cleared in Europe from June this year.

“We would also encourage the European Commission and Esma to complete the authorisation and the recognition process for CCPs from equivalent third country jurisdictions,” said EACH.

European regulators have not yet approved any US CCPs under Emir, meaning that relevant trades cleared using US CCPs will face additional capital requirements.

Last month Timothy Massad, chairman of the Commodity Futures Trading Commission, said in a speech that the US regulator is working with European regulators on reaching consensus over their recognition of US clearing houses. Massad said: “We’ve also been willing to work with the European Commission to make sure we are enhancing CCP resilience and minimizing differences that might lead to regulatory arbitrage. I certainly am as keen as Commissioner Jonathan Hill to bring this to a conclusion, and hope that we can do so soon”.

This month the CFTC approved Eurex Clearing, a unit of Germany exchange operator Deutsche Börse Group, as a registered Derivatives Clearing Organization.

This allows Eurex Clearing to initially offer proprietary over-the-counter clearing services to members domiciled in the US, together with their US affiliates. Eurex Clearing will then be able to extend its product offering to also offer clearing to clients domiciled in the US. In 2013 the CFTC granted exemptions or relief from registration to several non-US clearing houses, including Eurex, that wanted to clear swaps for their US clearing members but not for US customers.

Thomas Book, chief executive of Eurex Clearing, said in a statement: “The DCO approval is an important milestone in our strategy to further expand our global distribution. It also underlines Eurex Clearing’s commitment to our customers in the US market.”

Eurex has become the sixth clearing house outside the US to register with the CFTC. Massad said the CFTC’s system of dual registration came about because the regulator took a non-territorial view of where clearing must occur.

“The US did not mandate that clearing of futures traded on US exchanges must take place in the US, nor did we restrict the ability of US-based customers to clear futures traded abroad,” Massad added. “We simply required that clearing of futures traded on US exchanges take place through clearing houses that are registered and meet certain standards.”

The CFTC approval is subject to Eurex eventually complying with the CFTC’s requirements for straight-through processing once MiFID II comes into effect, likely in January 2018.

“Eurex requested that we issue a conditional approval so that it could comply with these requirements in the future, as it wishes to do so concurrently with the re-engineering of its systems to comply with European straight-through processing requirements, once they are finalized,” added Massad.

This month LCH.Clearnet, part of the London Stock Exchange Group, was also formally granted the status of Recognised Clearing House by the Monetary Authority of Singapore for EnClear, its freight division, ForexClear and SwapClear services.

Martin Pluves, chief executive of LCH.Clearnet, said in a statement: “Singapore’s proposal to introduce a mandate for the clearing of US Dollar and Singapore Dollar-denominated interest rate swaps in the future is a significant development and we look forward to supporting firms in meeting their clearing obligations.”

In a report on global clearing from consultancy Tabb Group, Radi Khasawneh said there is evidence that market share changes are being partly driven by cost considerations for the first time.

“Regional fragmentation, particularly in the US and euro-denominated interest rate swaps, has helped clearing clients get clearing and compliance certainty thus far. They have paid for that certainty by actively restricting their clearing and counterparty choices geographically,” said Khasawneh. “A reversal of this trend may emerge if the expected regulatory harmonization between the US and Europe spurs cross-regional differentiation.”

Featured image by Hortigüela/Dollar Photo Club

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