Wednesday, December 2, 2009

CME nears deal with banks on CDS clearing

Posted in the Financial Times by and Hal Weitzman:

CME Group, the world’s biggest futures exchange, is nearing a breakthrough deal with some of the world’s biggest banks to clear credit default swaps, according to people close to the negotiations.

An agreement with some banks could be announced on Thursday, capping more than a year of discussions.

The CME has been holding talks with the main dealers in over-the-counter (OTC) credit derivatives – Barclays Capital, Citigroup, Goldman Sachs, JP Morgan, Deutsche Bank, Morgan Stanley, UBS and Credit Suisse.

It was unclear how many of those banks would sign up with the CME.

The agreement is understood to be likely to specify December 15 as the launch date for clearing the first trades, meeting a deadline set by the CME. The CME would not comment on the specifics, but a spokesman said: “We continue to make significant progress with dealer founding members.” The banks either declined to comment or did not return calls seeking comment.

OTC derivatives have been blamed for exacerbating the financial crisis. US regulators and lawmakers want most OTC deals – in which two parties privately agree to a customised contract – to be centrally traded and cleared. This would impose margin requirements on traders and make information about prices more widely available.

InterContinental Exchange, a CME rival, has gained a significant head-start in the race to clear CDS trades, collaborating with the dealers to establish clearing houses on both sides of the Atlantic that have cleared contracts with a notional value of $4,000bn.

By contrast, exchange groups such as the CME and Eurex, the German derivatives exchange owned by Deutsche Börse, have made little progress in persuading CDS dealers to clear transactions through their clearing houses.

The CME – the dominant institution in US-listed futures, with a 98 per cent market share – has had a fraught relationship with the dealers in recent years. The banks are wary of the exchange seeking a greater role in OTC markets.

The CME originally proposed to trade and clear CDS in partnership with Citadel, the hedge fund. But when the dealers objected, it decided to focus instead on clearing.

The banks have been prodded to co-operate with the CME under pressure from the hedge funds and investment-management firms that are the biggest users of CDS.

Although the dealers have accepted that these “buy-side” firms want to support the CME’s clearing venture, they are understood to have been locked in protracted negotiations with the CME in recent months.

“Discussions over the specific details have been taking place three to four times a week, often going on for four hours at a time,” one dealer told the FT.

CDS dealers told the Financial Times they expected that volumes cleared at the CME would build more slowly than at ICE’s clearing houses, with the banks processing a limited number of trades through the CME at first. “There will take a ‘staged approach’ as more dealers use the system and get up to speed,” said a dealer.

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