It doesn't seem a lot to ask - when entering into a trade that is legally required to clear, it would be nice to know that the counterparty has access to a clearing house. Unfortunately, what seems like a simple formality is fraught with difficulty. That's because the vast majority of derivatives market participants will achieve access to clearing indirectly, through a futures commission merchant (FCM), which will place limits on the amount of business each client can do - and the FCMs themselves are also subject to limits set by central counterparties (CCPs).
Put crudely, achieving clearing certainty at the point of execution requires the clearing process to be turned on its head - before a trade is executed, both counterparties want to know whether the FCM and CCP will wave the transaction through.
The industry initially tried to solve this problem via new documentation, which proved so contentious that the Commodity Futures Trading Commission (CFTC) proposed a rule to ban it just weeks after it had been published. Since then, FCMs, CCPs and their clients have been trying to find another answer - and they've made a lot of progress. In fact, instead of coming up with one answer, they have come up with several.That is not necessarily a bad thing. The different clearing certainty models are good at different things and the market's diverse participants may appreciate the choice - but it introduces more cogs and belts to an over-the-counter market that is starting to resemble a mechanic's nightmare.
Given that clearing certainty is a prerequisite for smooth trading, the market would be better-served by a standard solution than an array of competing models, but the two bodies in a position to do something about it are, so far, refusing to take a stance - the first is the CFTC; the second is a working group convened by the Futures Industry Association and the International Swaps and Derivatives Association.
The CFTC held a meeting of its technology advisory committee on March 29, at which the issue of clearing certainty was discussed. Four market participants - Citadel, UBS, MarkitServ and MarketAxess - presented their views during a session scheduled to run for 90 minutes. By all accounts, the CFTC's commissioners asked a handful of largely process-orientated questions but did not appear to be backing a particular approach. Isda, meanwhile, is saying upfront that the working group will not be taking a position on which of the competing solutions is best - presumably because that would offend one or other of the working group's factions.
Certainty, it would seem, is far from clear.
This opinion piece was written by Duncan Wood, editor of Risk.
The week on Risk.net, May 12-18, 2018Receive this by email