Buy-siders are locked in negotiations with their prospective clearing members as they discuss terms ahead of the introduction of mandatory clearing of over-the-counter derivatives – and it’s a fight they are losing.
Buy-side firms want certainty over things like how they port trades from one clearing member to another or how they unwind positions. Banks on the other hand want to attach conditions to anything they promise – to be sure they retain control over what they are committed to, and don’t take on any unwanted risks.
Lawyers say the banks have been getting their way so far and there are several reasons why that seems likely to continue.
Arguably, buy-siders are starting talks at a disadvantage because standard documentation intended to help speed and simplify negotiations favours the banks. The drafting follows the principle that clearing members are riskless intermediaries. But buy-side firms say that wipes away many of the contractual provisions they relied on in previous bilateral agreements.
Fundamental imbalances in the industry are also affecting negotiations. The shrunken number of clearing members as banks pull away from a business with slim margins means too many clients chasing too few providers.
That puts smaller buy-side firms, which might be less valuable as clients, in a weak position. It means they risk being side-lined as banks in contract talks with hundreds of counterparties focus on those where relationships are worth the most.
Meanwhile, a similar shortage in capacity has led to related concerns in the US – that futures commission merchants will be unable to meet demand to clear derivatives centrally as collateral requirements for bilateral trades force up demand.
Back with clearing contracts, optimists point out a consensus did emerge in equivalent talks in the US. There it seems buy-side firms that were slow to engage didn’t suffer as a result. Some say there was even an advantage to holding back and letting others do the work finding common ground in discussions.
But in Europe the emerging picture is different. Lawyers see no signs yet of consistency in documentation even though discussions have been rumbling on for two years on this topic. They are telling smaller firms, in particular, to start talks if they haven’t already. It seems the negotiating position for many on the buy side is weak and likely to get weaker the longer they wait.
The week on Risk.net, May 12-18, 2018Receive this by email