Eurex’s ‘special membership’ for buy side shifts counterparty risk

Deutsche Borse’s derivatives clearing house, Eurex Clearing, is set to provide direct access to the buy side with a new category of clearing membership called ISA Direct. Until July, the plan is to pilot the service to no more than 10 clients, and the phone’s been ringing off the hook with enquiries, said Philip Simons, Global Head Trading & Clearing Sales at Eurex.

The ‘ISA’ in ‘ISA Direct’ refers to individual segregated account, a deliberate choice because the pipes work in a similar fashion. The responsibilities for the clearing broker to stump up cash into the default fund remains, as does the obligation to bid in any auction in the case of client default. What’s changed is that Eurex is taking on the counterparty risk while relieving some of the capital charges attached to big buy side in the wake of regulations.
The expectation is that the buy side will reduce reliance on the sell side by, for example, taking out transit risk associated with posting collateral by going straight to the CCP. Moreover, portability ceases to be a problem in the case of clearing agent bankruptcy because assets are owned by the end client and held in a pledged account. For the clearing bank, costs are reduced because the leverage ratio and RWA costs are shifted away.
“The ISA Direct client could choose to outsource (processing and reporting) to their new clearing agent. But if anything happens and the ISA Direct client goes into default, then the clearing agent is no longer underwriting that client. We at Eurex CCP will take on managing the default of that client,” Simons said. That’s also why the quality of the buy side with direct access needs to be “very high”, he added, in other words, the largest pension funds and insurance companies. This slice of the buy side is also the most painful from a leverage ratio and RWA perspective.
“Banks can offer the same services without all of the big capital costs. It allows them to stay in this business, and they don’t have the same level of risk to their clients because under clearing, the large directional clients are the ones that cause the most pain,” Simons said. “It’s the big pension funds and the big insurance companies who have really large directional positions that hurt the banks. But these are the highest quality clients, and so these are the ones that we are aiming the service at.”
In response to a Bloomberg article on ISA Direct, Steve Grob, Fidessa’s Director of Group Strategy, questioned whether the move by Eurex means that the industry has been “uberized”, stating: “The simple fact is that the futures industry is morphing into the top ten global FCMs that can provide global access and clearing, and everybody else… 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.”
Philip Simons, however, denies that there is a bank disintermediation element, pointing out that buy side must come in with a clearing agent. “Buy side cannot come and sign up on their own, they have to have a clearing agent, so we definitely do not want to disintermediate the banks. The role, or relationship, to the bank, client, and Eurex Clearing is what’s changed,” he said.

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