The introduction of mandatory central counterparty (CCP) clearing for all OTC derivatives trades, following the Dodd-Frank Bill being signed into the law on July 21 2010 and similar steps taken in Europe, has caused some major concerns for global custody clients, says industry expert.
“Overall the introduction to CCPs is a positive step,” says Rowena Romulo, Head of Direct Custody and Clearing at J.P. Morgan. “But there is a flipside to everything. So for example, there are some CCPs that are starting to position themselves by offering cheaper collateral requirements for membership. That is obviously a worrying development since this goes against the grain of creating a more secure system. There is also a visibility of in terms of the size of OTC derivatives markets and the fact as to whether those markets are liquid enough to warrant a CCP and what value it will add to those markets.”
The so-called race to the bottom has caused worries in the securities services industry, with International Swaps and Derivatives Association (ISDA) chiefs asking regulators to keep a close eye on this development.Romulo says the issue of inter-operability between the number of CCPs is also a concern.
“Major derivatives counterparties state the importance of netting to their businesses and they stress that CCPs in the region need to work with each other and with CCPs outside the region,” says Romulo. “Otherwise there would be a need to place more collateral against both sides of the trades and with both CCPs which would obviously push up the costs for end-users.”
However, Romulo does say that, overall, mandatory clearing through CCPs is a positive industry development for global custody.
“Currently, mandatory clearing is only being enforced for OTC derivatives while OTC cash equities are not subject to this,” says Romulo. “So CCP clearing is mainly used for on-exchange trades and by pushing more derivatives trades onto CCP platforms should ease systemic risk concerns. I think it also forces the regulators to think about what represents benchmark good risk management and governance with regard to the derivatives infrastructures. And competition from multiple CCP offerings should, in theory, ensure that no CCPs should exhibit monopolistic pricing power.”
To watch the full video interview with Rowena Romulo, Head of Direct Custody and Clearing at J.P. Morgan, please check out the website on Friday April 22.
(LB)