London, Friday 7 September 2018 – The World Federation of Exchanges (“WFE”), the global industry group for CCPs and exchanges, has today published its response to the four global standard-setting boards assessing the effectiveness of incentives to centrally clear over-the-counter (OTC) derivatives. The WFE calls for prompt and concerted action internationally to address issues confirmed in the August 2018 consultation paper from ‘the Committees’: the Basel Committee on Banking Supervision (BCBS), the Committee on Payments and Market Infrastructures (CPMI), the Financial Stability Board (FSB) and the International Organization of Securities Commissions (IOSCO).
The consultation seeks to “examine whether adequate incentives to centrally clear OTC derivatives are in place…and help inform the relevant standard setting bodies as they identify and deliver adjustments.”
The key highlights from the WFE’s detailed, technical response are as follows:
The WFE welcomes the work that has gone into implementing important post-crisis reforms to OTC derivatives markets, and this study into their impact. Whilst agreeing that reforms have generally contributed to incentives to clear, the WFE urges concerted action to resolve the persistent issues with the way the leverage ratio treats segregated client initial margin.
The WFE agrees with the report’s analysis that, left unmodified, the leverage ratio poses disincentives to client clearing, as the current calculation fails to recognise the exposure-reducing impact of segregated client collateral held by a bank. This can render the provision of client clearing uneconomical, driving participants from the market and reducing access to hedging products, potentially increasing risk in the system. The solution is reforming the treatment of client initial margin under the leverage ratio by introducing an offset.
The WFE believes that the Committees must now work together to deliver a globally consistent approach to the incentives regime and remediate the deficiencies identified in the report. We also call for a future study at the global level that considers the regime for clearing both OTC and exchange-traded derivatives.
Nandini Sukumar, CEO, WFE said: “WFE members believe that segregated client initial margin should be recognised in the capital regime as reducing the leverage exposure measure. We call for concerted action to resolve the lingering and persistent issues here, and believe that it is desirable to address this, and other long-standing issues, at the global level and in a co-ordinated way across jurisdictions.
“Looking ahead, we urge the Committees to develop an action plan, building on the conclusions of this report. It would also be valuable to have at least one further, detailed look across the whole cleared business, both listed and OTC, and to do so in a more granular fashion, examining the capital and resource allocations that financial intermediaries are making in practice.”
Richard Metcalfe, Head of Regulatory Affairs, WFE added: “The capital rules are by far the biggest issue at the moment. Requirements to exchange collateral may make it relatively expensive to face derivatives counterparties directly, but that does not mean that central clearing is appropriately incentivised. In fact, the rules are undermining client clearing of all derivatives, whether OTC or exchange-traded. This can be fixed simply – and consistently with the G20 reforms of 2009 – by recognising the risk-mitigating effect of margin, rather than penalising it.”