GC Interview: Societe Generale's Bill Stenning on the Impact of Basel III on Derivatives Clearing

Stricter rules requiring banks to hold more capital to cover their derivatives activities have prompted alarming concerns throughout the industry on their effect on client clearing. Already a number of high profile banks have pulled out of the space, and now Japanese bank Nomura is the latest to review its swaps clearing business according to reports. Global Custodian speaks to Bill Stenning, managing director for Clearing, Regulatory and Strategic Affairs at Societe Generale Corporate & Investment Banking (CIB), about his main concerns on Basel III are, and what the market impact might be with these changes.
By Joe Parsons(2147488729)
Stricter rules requiring banks to hold more capital to cover their derivatives activities have prompted alarming concerns throughout the industry on their effect on client clearing. Already a number of high profile banks have pulled out of the space, and now Japanese bank Nomura is the latest to review its swaps clearing business according to reports. Global Custodian speaks to Bill Stenning, managing director for Clearing, Regulatory and Strategic Affairs at Societe Generale Corporate & Investment Banking (CIB), about his main concerns on Basel III are, and what the market impact might be with these changes.

GC: What are your main concerns with the Basel III leverage ratio rules?

BS: The primary concern lies with the Basel III capital rules which are used to cover client exposures at clearing brokers. Not only are we not able to net the initial margin against total exposure but we actually have to add it on in the leverage ratio calculation.

In addition the CEM (current exposure method) in Basel III for calculating exposure doesn’t efficiently reflect the true nature of netting in OTC products.

GC: What affect could this have on client clearing?

BS: On the positive side you’ve got constant innovation, with new workflows and products being developed, and the evolution in the market has led, for example, to new compression services to try to help optimize in this space. On the risk side, there is a lot of discussion on the recovery and resolution plans of CCPs which potentially expose Clearing Brokers to tail risks.

Then, if you layer on the capital issues which don’t fully align with the underlying risks, ultimately you see clearing becoming more complex. The effect of this is either to push costs up or capacity down. Given the amount of capital that needs to be tied up within your clearing operations, it could mean that brokers may have to look more closely at the clients they want to support.

GC: With the number of futures clearing merchants leaving the clearing space increasing, what concerns are there for competition in OTC clearing?

BS: A general rule is that too much concentration is not desirable within a clearing house infrastructure. If you look at the CFTC reports on registered FCMs, there are only 12 FCMs that offer OTC derivatives client clearing. Of that dozen, there is a total of $53 billion client collateral required, 50% of which is held by the top three FCMs, and 75% with the top six. So ultimately this could become a worry if more firms are unable to make that business viable and volumes continue to be increasingly concentrated.

There needs to be enough diversification to avoid systemic risk, obviously a clearing house with only one clearing member makes no sense, but how many is “enough” is a hard question. With clearing mandates in place in the U.S. and coming in the EU, whether there will be sufficient Clearing Broker capacity to support all market participants is not obvious.

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