Saturday, February 13, 2010

LCH.Clearnet on central bank support and interoperability

I can't access the Wall Street Letter, but this came across the tape: "European clearing houses may need access to central banks funds in order to avoid major defaults, said Roger Liddell, ceo of LCH.Clearnet, in a hearing held ..."

Also interesting is this story from the Financial Times on links between LCH.Clearnet and X-Clear:

LCH.Clearnet, Europe’s largest independent clearing house, and X-clear, a Swiss clearer, revealed on Monday details of the framework they use to link to each other as part of “interoperability”, a process used by clearers that is designed to allow traders a choice of where their trades are cleared.

The move comes as European regulators prepare to publish guidance on interoperability in the next few weeks after they called a halt to the set-up of new interoperability links late last year.

It was aimed at increasing transparency over the two clearers’ arrangements, an LCH.Clearnet spokeswoman said.

The European Commission pushed interoperability before the financial crisis as a way of spurring clearing choice and lowering post-trade costs across the region. But it has run into trouble as clearers have disagreed over issues such as risk management, and how to treat margin, or collateral, posted by one clearer to another.

Progress on interoperability ground to a halt late last year after regulators called into question a three-way arrangement between LCH.Clearnet, X-clear and EMCF, the Dutch clearer. Regulators in the UK, the Netherlands and Switzerland are expected to decide soon how such inter-clearing house links could work without posing risks to the wider financial system if one clearer were to default.

The LCH.Clearnet and X-clear interoperability arrangement, which was set up in 2003, differs from the EMCF approach – and that proposed by EuroCCP, a fourth clearer – in its treatment of margin collateral.

The EMCF/EuroCCP approach, known as a “survivor pays” model, envisages that clearers do not exchange margin collateral but increase their own default funds instead by calling on greater contributions from their members. Here, the burden of a default by an interoperating clearing house is shared by the surviving ones.

Under the LCH.Clearnet and X-clear model, both exchange margin collateral with each other in the same way their clearing members exchange margin collateral with them.

Each clearing house has “the authority to determine the eligibility of trades for clearing”, LCH.Clearnet and X-clear said. The margining process, where the clearing houses calculate how much margin they require from a counterparty to clear trades “preserves the integrity and safeguards of each clearing house”.

It also provides for distinct default funds with the aim of minimising fall-out in the event of a clearing house defaulting, the two clearers said.

Wayne Eagle, director of equity services at LCH.Clearnet said: “LCH.Clearnet and Six x-clear have a proven model that has withstood the largest default in history [Lehman Brothers].”

“It demonstrates that interoperability can be safe and secure so long as the structure preserves the integrity of the CCPs and minimises contagion in the event of a default through securely ring-fencing the surviving CCP and its members.”

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