NDF Clearing Raises Bifurcation Concern
The non-deliverable forwards market hit a bit of a milestone recently regarding clearing, but could it hurt the market if it continues?
NEX Market officials estimate that sometime over the past 18 months, more than half of NDF transactions of the firm’s electronic trading platform are now cleared.
The exact percentage is difficult to know since it is the counterparties who decide whether to clear the transaction, Jeff Ward, head of NEX Markets Asia and emerging markets at Nex Markets told Markets Media.
“Generally speaking, rule of thumb in many markets you can see the top 20 clients represent 80% of trading activity. In the NDF market, most of the major international dealers are clearing with each other,” said Ward. “There’s a high probability that a significant proportion of trades executed on our platform are cleared.”
Ward expects the adoption trend to continue until counterparties ultimately clearing 100% of NDF trades, he added.
Its immediate knock-on effect of such broad adoption would allow counterparties to free additional credit, which could fuel further growth of the NDF market.
“Due to dealers ability to leverage credit more efficiently, NDF clearing will help the market grow considerably once the transition is complete,” said Ward. “Some counterparties will have to find third-party clearers if the liquidity available for cleared NDF trades is greater than it is for non-cleared trades.”
However, many local and regional banks in China and the rest of Asia may not be setup to clear transactions, he noted.
The division of cleared and non-cleared NDFs may lead to an unwanted bifurcation in pricing similar to what traders see in the interest rates markets where banks will price in the added risk to non-cleared transactions.
“In the rates market, swaps are normally priced differently based on whether or not trades will be clear or not,” said Christopher Soriano, EBS head of emerging markets, Americas at NEX Markets. “This is not yet true for NDFs, currently there is one price and whether it is cleared or not, can be ambiguous depending on where the trade is executed. There are still a lot of clients who may not be set up to clear, so a bank may decide to trade bilaterally with that counterparty.”
A bifurcated NDF market is the last thing the industry would want, he added. “We need to keep in mind that NDF’s is smaller in scale than the say the G10 spot, as such it important to keep liquidity concentrated.”
Trade associations have asked for an extension of the temporary equivalence decision for UK CCPs.
Trading Technologies has partnered with Chinese clearing broker COFCO Futures.
Phase 5 of the uncleared margin rules (UMR) took effect from September 2021.
Temporary equivalence is set to expire on June 30 2022.
IRS trading volumes have fragmented without an equivalence agreement.