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Clearing Amp Settlement
Clearing houses may face new capital rules
From the Financial Times of Mon, 24 Nov 2014 19:25:09 GMT
A street cleaner sweeps the pavement opposite the main entrance to the Bank of England (BOE) in the City of London, U.K., on Wednesday, June 5, 2013. U.K. overall lending declined 300 million pounds ($460 million) in the first quarter, according to data published on the BOE's Funding for Lending Scheme. Photographer: Chris Ratcliffe/Bloomberg©Bloomberg

The risk management houses that underpin derivatives markets may need to hold more capital to prevent a taxpayer bailout if one of them fails, a senior regulator from the Bank of England has warned.

David Bailey, director of financial market infrastructure at the Bank, said on Monday clearing houses may require a global standard for minimum capital levels similar to one recently announced for banks.

Together with Benoît Cœuré, member of the executive board of the European Central Bank, he also called for more stress testing of clearing houses, as global regulators try to end “too big to fail” institutions that threaten the market stability.

Their comments, at a conference in London, come amid an intense global debate over how clearing houses proceed in the event that the viability of one or more of them is threatened.

Clearing houses, also known as central counterparties, have moved to the forefront of a global regulatory push to stabilise markets after the financial crisis. It stands between two parties on a trade, ensuring the deal is completed in the event of a default.

Regulators and market participants have worried they could be the new focus of systemic risk. Some legislation covering the legal process if a clearing house fails has been put into place by national regulators but global standards vary. Global bodies such as the Financial Stability Board have sought to create minimum global standards.

Mr Bailey, whose department oversees clearing houses owned by LCH.Clearnet, CME Group, Intercontinental Exchange and the London Metal Exchange, said there was an important question as to whether CCPs were resolvable in their current forms.

“The FSB has recently proposed that there must be a minimum level of ‘Total Loss Absorbing Capacity’ (TLAC), for banks and we will need to consider carefully whether and how this concept could be effectively translated to CCPs,” he told a conference hosted by Deutsche Börse.

“In a similar vein, writing down operating liabilities through some form of initial margin haircutting should also be considered,” he added.

The TLAC standard sets a minimum amount of capital and liabilities that can be written off when a major bank gets into serious trouble, avoiding the need for taxpayers to pay out – as they did in the 2007-09 financial crisis.

His comments were echoed by David Wright, secretary-general of the International Organisation of Securities Commissions (Iosco), an umbrella organisation for securities regulators. “The more instruments that you have the better. You have to remember the costs of failure,” he said.

Kay Swinburne, a European member of parliament, also backed the proposal, suggesting that TLAC was a way to safeguard client assets in case of failure.

The issue of liability for clearing house failure has resulted in fierce debate between clearing houses such as CME Clearing and market participants including JPMorgan, BlackRock and Pimco.

In coming days the International Swaps and Derivatives Association is expected to release a set of principles for clearing house recovery that recommends greater transparency on risk management and stress tests, according to a draft seen by the Financial Times. Europe is due to produce legislation to cover failing clearing houses next year.

Mr Bailey said legislation should give resolution authorities power to recapitalise a failing CCP through writing down liabilities and converting them to equity. “Existing shareholders should be the first to bear the losses if this approach is to be taken,” he said.

Mr Cœuré said regulators needed to better understand the systemic implications of pushing risk back to market participants, and to consider scenarios in which several clearing houses were threatened.



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