A new white paper, Central Clearing and Collateral Management, released today by risk management specialists InteDelta, has identified a number of unintended consequences of the CCP model and revealed frustration in the sector in the face of regulatory uncertainty. The paper is based on interviews with 14 banks and InteDelta's own consulting activity.
Jonathan Philp, Managing Consultant at InteDelta, and the paper's author, comments: "Banks are frustrated by regulatory uncertainty as they need to decide over whether to offer client clearing and what the scope of it should be. They are still trying to establish how the client clearing process should be designed, and what products they should be offering."
The unintended consequences of the central clearing model identified in the paper include:
â¢ CCPs becoming systemically important institutions, the failure of which represents a threat to market stability.
â¢ Increased competition as more CCPs enter the market, driving adoption of more favourable collateral terms or weaker membership criteria, increasing vulnerability to failure.
â¢ Conservative collateral eligibility requirements distorting markets, weighing on performance and imposing incremental costs.
â¢ Increased costs of financing potentially forcing some market participants to decrease their derivatives activity, leading to increased costs and volatility of returns to end users of financial products.
The clearing intentions of banks were assessed for the paper, focusing in particular on the incremental risk management requirements arising from central clearing activities.
Jonathan Philp continues: "In the case of all the largest broker-dealers, the default assumption is for clearing membership of CCPs in order to be able to support the broadest possible client clearing services. Outside this group, however, few banks have firm plans to offer client clearing services."
The paper also identifies four distinct competitive differentiators for a client clearing service and paints a picture of the future state of the market.
Jonathan Philp concludes:
"It seems likely that OTC derivatives will evolve into a structure similar to the listed derivatives market, characterised by recognised exchanges and clearing houses and dominated by a few large players who can bring infrastructure to bear to wring margin out of a largely commoditised service with a value-added proposition. Specialist or regional players will likely offer a more niche service."
The White Paper can be downloaded from the InteDelta website.