At last, the DTCC has officially thrown its hat into the ring to create a repo CCP for both the sell-side and buy-side. See especially the section called “How the Proposed Service Would Work.”
New York / London / Hong Kong / Singapore, October 15, 2014 – The Depository Trust and Clearing Corporation’s (DTCC) subsidiary Fixed Income Clearing Corporation (FICC) intends to submit a rule filing with the Securities Exchange Commission (SEC) and an Advance Notice filing to both the SEC and the Federal Reserve to provide central clearing for the over $1.6 trillion institutional tri-party repo market. Central clearing would play a key role in providing stronger participant and systemic safeguards for the tri-party repo market. FICC provides the only central clearing function for tri-party repo trades in the U.S. and is the only platform ready to serve this market.
The intended rule filing will outline FICC’s proposal to leverage its existing risk management and trade guarantee services for the institutional tri-party repo market in the U.S. Implementing FICC’s central counterparty (CCP) services for these transactions would increase operational efficiencies, guarantee completion of eligible trades, and lower the risk of a liquidity drain in the event of a dealer failure by extending its netting services. Since 1998, FICC’s GCF Repo® service has seamlessly processed repo transactions and is the only infrastructure in the U.S. with experience and the proven technology and bandwidth to handle processing of these trades.
“Centralizing the clearing and settlement of repo transactions through FICC could potentially help to prevent another squeeze in tri-party funding such as the one observed in 2008 when Funds sharply reduced their lending during the run up to the Lehman failure,” said Murray Pozmanter, DTCC Managing Director and Head of Clearing Agency Services. “It would also provide regulators with a broader and more comprehensive view of the repo market for the monitoring and management of systemic risk as well as mitigate risks associated with a fire-sale in the tri-party marketplace.”
The intended rule filing remains subject to regulatory review and approval by the SEC and the Federal Reserve Board in all respects.
How the Proposed Service Would Work
Subject to regulatory review, the proposed service would allow the submission of institutional tri-party repo transactions between existing members of FICC’s Government Securities Division (GSD) and investment companies registered under the Investment Company Act of 1940 (referred to as “RICs” or the “buy-side”) where the RICs are the cash lenders in the transactions. A new limited GSD membership type would be created for tri-party money lenders. This membership type would be separate from full GSD service membership and would relieve RICs of being subject to full GSD membership requirements.
The proposed service would include general collateral financing (GCF Repo®) eligible collateral, or approximately 74% of the over $1.6 trillion tri-party repo market.
Key Benefits of FICC’s Proposed Service
- Reduction of counterparty risk by guaranteeing the completion of settlement in a member default scenario.
- Existing members could be eligible for balance sheet offset.
- FICC’s guarantee may mitigate risk of a large-scale exit by cash investors in a stress scenario.
- Centralized liquidation of a failed counterparty would reduce the potential for market disruption and fire-sale risk.
- Decreased settlement and operational risk via CCP netting, novation and risk management.
DTCC is a user-owned, industry-governed cooperative that serves as a neutral market participant. As FICC is not a participant in the funding market, it has no direct interest in the levels being produced.
Protecting from Fire-Sale Risk
Fire sale risk remains a critical policy concern of the Federal Reserve and other members of the U.S. regulatory community. A solution to this problem is central liquidation (which FICC already offers in all of its clearing arrangements). RICs receive securities as collateral, so the concern is that if there is turbulence in the market resulting in dealer defaults, the RICs will need to sell large amounts of securities, which could dramatically reduce the value of the securities they are looking to sell.
The Federal Reserve’s Payments Risk Committee sponsored the creation of the Tri-Party Repo Infrastructure Reform Task Force in 2009 and asked the industry to develop a solution that would reduce reliance on intraday credit and increase risk management practices. The Task Force’s goal is to enhance the U.S. tri-party repo market’s ability to navigate stressed market conditions by implementing solutions that help mitigate risk and better safeguard the U.S. financial market. DTCC has worked in close collaboration with the Task Force on these reform initiatives.