Capco Blog

Opportunities and challenges abound for CCPs in today’s market

The post-financial crisis era presents tremendous opportunities for central counterparties (CCPs) as demand rises for CCP clearing. To further grow their business, CCPs can explore the following opportunities:

Increase participation – Currently, most participants of CCP services are major banks and dealers. Some firms are not able to meet CCP requirements as direct clearing members given their constraints in capital, appetite for risk mutualization, or technology and operational capabilities. Even firms such as buy-side institutions that would like to participate as indirect clearing members face challenges in implementation due to their lack of experience with CCPs. To encourage participation, CCPs can consider alternative models for direct participation, such as different levels of membership with different membership requirements, thus eliminating obstacles for firms such as smaller dealers. For indirect clearing participation, CCPs can team up with market experts to offer participants more services in facilitating implementation.

Extend product and service offerings – CCPs have opportunities to provide a broader suite of products and currencies to their clients. In effect, clearing houses are already striving to increase their product offerings, especially in the OTC derivatives space given the demand from banks to meet the regulatory requirements of CCP clearing. The broader range of products that a clearing house can offer to its clients, the more capital efficiency its clients can achieve through cross-margining. Besides products, CCPs can also expand their service offerings to incorporate other trading and post-trade services, such as matching, confirmations, custody and collateral management services.

Expand global footprint – Clearing houses have been growing their presence into different regions, primarily between the United States and Europe. For example, EuroCCP, a subsidiary of DTCC, began operations in 2008; CME Clearing Europe was launched in 2011; ICE has ICE U.S. and ICE Europe; and LCH.Clearnet has a subsidiary in the U.S. Can new territories, such as Australia, Asia and South America, be explored by clearing houses for new business opportunities? Europe’s largest derivatives exchanges, Eurex and NYSE Liffe, recently announced new initiatives aimed at broadening their presence in the Asia-Pacific region, and it will not be a surprise if their clearing houses follow suit.

With every opportunity comes a challenge. As CCPs pursue opportunities to grow their business, they face major challenges, particularly in the following areas:

Regulatory scrutiny and requests – CCPs are under the microscope of regulators since their critical role in the market infrastructure is apparent. As discussed in previous blogs in this series, European regulators are demanding increases in CCP capital requirements. Another heated debate centers around interoperability among clearing houses, an arrangement that links different CCPs. Even though regulators’ preference is to establish interoperability, allowing participants of one CCP to seamlessly deal with participants of another CCP, clearing houses question if the mandatory interconnectedness would, in effect, increase systemic risks. Nevertheless, with the ever-evolving regulatory environment, challenges to fulfill regulators’ demands will be a recurring theme for CCPs.

Internal development – To capture opportunities to increase participation, product and service offerings, and global expansion, CCPs need resources with expertise in operations and risk management not only to help business development but also manage the day-to-day business. Technology and operational infrastructure also needs to be in place to support business growth. Partnering with consultancy firms rich in CCP experience can be a way to address this challenge. In any case, resources with a strong CCP background will be hot commodities in today’s market.

Market education – Due to the recent market attention given to OTC CCP clearing, more and more market participants are becoming acquainted with the concept of a CCP. However, many participants are still not familiar with CCPs and the implications on their businesses if they adopt CCPs. This lack of understanding significantly hinders participation in CCP clearing. Hopefully, this blog series shed some light onto this space. Nonetheless, there should be dedicated and ongoing efforts to educate the market about the ever-changing landscape of CCPs.

CCP clearing is one piece of the puzzle for building out a global market infrastructure that is efficient, robust and conducive to market growth. The development of CCPs should be taken into the broader context of holistic market development. More standardization and transparency of CCPs can be foreseen as the market evolves. As in the old saying “Rome was not built in a day,” we can expect this to be a long, albeit exciting, journey. In the meantime, sit tight and enjoy the ride.

What opportunities and challenges do you think CCPs face today? Join the discussion.

Comments

The entire blog series has been very informative and engaging, raising questions and providing sound answers to the dilemma faced upon due to financial regulations. I believe that there are smaller but other opportunities which CCP's can exploit as well such as reporting and record-keeping as a service to its clients. As the reforms have mandated reporting but have given the flexibility of third party reporting which can be done by CCP's for the counterparties involved in any trade.

Another area of exploit can be non-financial users and business houses who massively hedge to protect themselves. Such institutions can be offered different kind of membership and assistance with their investment requirements.

Once again, thank you for the blog series.

Thank you for the comments and you've raised some great points. Reporting and record-keeping are focal points for Dodd-Frank and I'd definitely expect that would be adopted in other jurisdictions as well. It can be foreseen CCPs will be instrumental in those requests. As for the participation, it is very interesting that you pointed out on the non-financial institutions. I am actually aware there are initiatives to expand the participation into that space.

Really appreciate your inputs and please feel free to contact me if you have further thoughts through the contact form.

Thanks Jennifer!!

I was not sure how to extend our conversation through contact form but I wanted to highlight another aspect which may be at horizon for CCP's and that is INTEROPERABILITY.

As you must be well aware that Dodd Frank does not talk abut interoperabiliity but the same has been introduced by ESMA recently, with release of consultation paper on 'Guidelines for establishing consistent, efficient and effective assessments of interoperability arrangements'.

How do you see interoperability affecting businesses of CCP's ? Would this be a phase where we would see consolidation of existing market players, rise in mergers and accusations?

At the same time for customers of CCP's, it opens up markets which were not yet available and moves away from siloed structures which restrict those customers.

What are your views on the same?

I hope I am not digressing the discussion to some other path. Thanks again for the informative blog series

Thank you so much for the comments. You actually hit some of the key topics on the horizon in the CCP world. Interoperability has been under discussion and we have observed mergers & acquisitions underway for some organizations. I will be covering these topics in my blogs this year. Stay tuned!

Thanks Jennifer!

Will keep an eye for your blogs.

Best Regards,
Sumit Mandowara

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