19 August 2013

FN: Clearing house failure could imperil buyside assets

The consultation paper from the global standards-setting body the International Organisation of Securities Commissions provided guidance on the recovery and resolution of financial market infrastructures and looks set to reignite a fierce industry debate over the safety of buyside assets under new derivatives trading rules.

The paper notes that in the event a clearing house, or CCP, falls into trouble “some loss allocations schemes might… extend beyond owners and direct participants to indirect participants and third parties”.

New rules ushered in under the G20 reform agenda will force buyside firms to clear their over-the-counter derivative trades for the first time and secure those transactions by posting collateral assets known as margin. Buyside firms are not typically direct members of CCPs and clear through bank intermediaries, which post this margin on their behalf.

The buyside has fought for CCPs to ring-fence their assets to protect them in the event their sellside clearing provider goes bust. But last week’s IOSCO paper proposes that should the CCP itself fall into trouble, it could apply haircuts to the customer margin “of all participants [direct and indirect]”.

One clearing house executive, who asked not to be identified, said they agreed that buyside client assets should be protected in the event their bank intermediary goes bust, but added: “When it comes to a CCP failing, that could be such a system event that the CCP should be able to use all funds available".

The IOSCO paper is not binding but lobbyists expect it to prove highly influential as the European Union draws up its own proposals on clearing houses later this year.

Clearing houses sit between counterparties to guarantee a trade in the event either party goes bust, but regulators and market-watchers fear that their growing prominence under the G20 reform agenda has made them too big to fail.

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