Eurex Clearing, Deutsche Börse’s central clearer, is giving direct access to the buy side in a new model which should reduce fees for clients while generating higher returns for clearing members.
This summer the German clearing house is launching ISA Direct, a new membership type that allows buy-side firms to have a direct contractual relationship with the CCP. The targeted clients are regulated clients domiciled in a member state of the European Union and Switzerland including insurance and financial services companies, pension funds and asset managers. In June this year the mandatory clearing obligations for standardized OTC derivatives in Europe will start in a phased approach.
Daniel Berner, chief investment officer of Swiss Life Switzerland, said in a statement: “ISA Direct alleviates the regulatory requirement to centrally clear over-the-counter derivatives in several ways. By enabling us to become a direct member of the CCP, our concerns regarding counterparty credit risks, clearing costs and portability of our assets are much better addressed compared to the traditional client clearing model.”
The relationship is facilitated by a clearing agent, who has to be an authorised clearing member. However clearing agents face lower capital requirements as the ISA Direct member maintains legal and beneficial ownership of the collateral they place at the CCP.
Matthias Graulich, member of the Eurex Clearing executive board, told Markets Media: “The new model should make fees more attractive as clearing members can lower their leverage ratios and risk-weighted assets and generate more attractive returns on equity, while at the same time being able to reduce fees for the client. Some firms may rethink their decision to exit clearing and we understand that some of those discussions are happening at the moment.”
The service functions provided by the clearing agent can be the same or similar to those previously provided by the clearing member but the risk exposure will now be between the direct client and the CCP. If one clearing agent fails, the buy-side still legally owns its collateral and so should find it easier to switch to another clearing agent to provide services.
Jason Vitale, managing director for listed derivatives & markets clearing at Deutsche Bank, said in a statement: “GC Pooling positively influences our ability to fund business activities of our clients and tackles current liquidity constraints in the repo market. ISA Direct allows clearing members to continue their operational clearing relationship with clients without requiring the traditional performance guarantee.”
The clearing agent covers the default fund contribution to the CCP and default management obligations. Graulich said: “Many buy-side firms generally have restrictions in their rules against mutualizing assets in a combined risk pool. Therefore ISA Direct assigns the default fund related obligations to the clearing agent.”
Matthias Graulich, Eurex
The new model will initially be offered for Eurex Clearing’s interest rate swaps and repo transactions of Eurex Repo’s “Select Finance” service with listed derivatives and securities lending to follow.
“The feedback from the buy side has been very positive. We have already committed a few clients and more firms are in advanced discussions for becoming a pilot,” added Graulich.
He continued that the new model will allow Eurex Clearing to diversify its client base which will reduce concentration risk. “In the US the largest 10 clearing members make up 90% of client risk at CCPs,” added Graulich.
Steve Grob, director of group strategy at Fidessa, said in a blog that it is entirely logical for Eurex Clearing to allow large buy-side firms to have direct membership of its derivatives clearing house as regulations treat client capital as a risk asset which is subject to capital ratios.
Grob added that the futures industry is bifurcating between the top ten global futures commission merchants which have the scale to provide global access and clearing and the remaining niche players.
“Taken to its natural conclusion then, we should expect a dramatic fall off in trophy memberships of exchanges which, in any event, are themselves being condensed into the big three derivatives exchange groups,” Grob said.
Last October market-maker Citadel Securities (Europe) Limited become the first non-bank clearing member of SwapClear, an interest rate derivatives clearing service from LCH.Clearnet, the London Stock Exchange’s clearing business.
Paul Hamill, global head of FICC for Citadel Securities, said in a statement: “We are grateful to LCH.Clearnet for their partnership, and are proud to represent one of the few sources bringing much-needed additional liquidity to the market. Becoming a self-clearer further strengthens the foundation of the business and our commitment to the swaps market.”
Grob expects competition between the global FCMs and exchanges on who can offer the most efficient use of capital to their end customers. “Much like when Uber uncovered the fundamental inefficiency in automobile use, we had better watch out – lest we all end up as disgruntled taxi drivers,” he added.
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