17 January 2014

FT: MiFID show moves to Paris after breakthrough agreement

After the euphoria of the EU's MiFID deal, ínterest is now turning to the agreement's fine details. This will be overseen by Paris-based ESMA, and will ultimately decide the winners and losers.

Many have grumbled that the agreed planned transition period of 30 months, plus a potential deferral of another 30 months, in effect protects the vertical silo. But even more critical will be how ESMA defines “open access” for clearing. This will turn on whether these risk management houses have to make products fungible – or fully interoperable with rivals.

To encourage competition, regulators demonstrably want clearing houses to clear for many venues. Whether ESMA determines clearing houses to be interoperable is another matter entirely. In this case exchanges would have to allow customers to access their open interest positions. Customers could have a swap open at one clearing house and have the position offset by a swap cleared at another clearing house. While it would open up the liquidity pool to customers, it also introduces serious potential systemic risks as it interlinks two clearing houses. Should one clearing house fail, the rest could get very rapidly engulfed.

Investors appear to want the benefits of netting their derivatives positions but, for systemic reasons, that can only take place in one clearing house. Since the introduction of mandatory clearing in the US, investors trading interest rate swaps have been offered a choice of CME Group or LCH.Clearnet for clearing. CME is steadily taking more market share – primarily as its large futures business offers more capital efficiencies through netting. In spite of the regulatory push, clearing may be a natural monopoly.

A further problem that ESMA faces is integrating MiFID with other sweeping financial legislation. Some headway has been made. A clause inserted by the British late on in effect reconciled open access on listed derivatives with the European Market Infrastructure Regulation, which had ruled against it two years ago.

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