Finadium
April 2013

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How risk is managed and initial margin calculated are critical to understanding the safety of cleared swaps, non-cleared swaps, futurized swaps and standard futures trades. This report provides a guide to understanding the similarities and important differences to risk management models across these products including SPAN, Historical Value-at-Risk (HVAR), omnibus vs. LSOC accounts and liquidation models.

Central counterparties (CCPs) and Derivatives Clearing Organizations (DCOs) now appear to be single points of failure in financial markets. While both have extensive risk management systems designed to make their processes robust, differences in risk waterfalls play an important part in distinguishing cleared swaps from futures and hybrid swap futures.

This report has been written for portfolio and risk managers looking for a comparable analysis of how cleared and non-cleared swaps are similar or vary from futures, as well as what is at stake. The differences in risk models, required margin and liquidation practices may help managers to decide which products are best suited for their or their clients’ investments.

This analysis is a technical companion to Finadium’s March 2013 report, The Futurization of the Swaps Market: Players, Products and Collateral.

This report is 17 pages with 4 exhibits.

TABLE OF CONTENTS

■ Executive Summary

■ The Margining Process: OTC Swaps vs. Swap Futures
– SPAN
– HVaR
– Practical Differences Between Models

■ Risk Waterfalls and LSOC
– Managing Fellow Customer Risk with LSOC and
Omnibus Accounts

■ Liquidation Processes

■ About the Author

■ About Finadium

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