09 Jun 2022


Stable foundations needed to help Europe’s clearers thrive

Eurozone-based clearing has flourished in recent years, as innovation and attractive incentives laid the ground for an attractive alternative CCP for the swaps markets.

Brexit provided an opportunity to enrich Europe’s capital markets infrastructure and create new efficiencies for the market, through innovations like cross-margining.

But for eurozone clearing to move to the next level, a clearer regulatory framework is needed. Furthermore, it must be guided by the principles of smart regulation. As critical to the success of euro clearing as its CCPs are the clearing members who clear for clients.

Therefore, authorities must be careful to create a level playing field, in which European banks can compete to the best of their capabilities. A failure to do so would have knock on effects for firms’ ability to provide the liquid markets needed to support the aims of the Capital Markets Union.

“European market making and clearing go hand in hand,” says Gaspard Bonin, Deputy Global Head of Derivatives Execution and Clearing at BNP Paribas. “You cannot be a clearing bank if you are not a market maker.

“Being a clearing bank is about credit intermediation on your clients’ portfolios. If one of those clients defaults, or is under stress, you need to be able to manage their positions.

“From a CCP perspective, very strong members are also needed to bid for portfolios in the event of another member defaulting. If a European CCP only relies on non-EU market makers and clearing banks to secure its default processes, I am not sure that it can be called an EU CCP anymore.”

Unfortunately, regulators’ attitude to third party clearing houses has been hard to navigate at times. Talk of derecognition of UK CCPs and the prospect of capital penalties for banks that fail to clear their swaps in the EU feel counterproductive.

There is enough enthusiasm to build on the good efforts made by Eurex in cultivating an alternative market for euro swaps clearing. Indeed, a market in which both Eurex and LCH co-exist to service swaps users is both achievable and much more desirable than a mandate that certain banks are unable to access certain CCPs.

“Every market maker is against the imposition of a strict prohibition on dealers participating in LCH,” says Thilo Rossberg, head of fixed income, currency and commodity markets at LBBW. “That would be a disadvantage for EU banks as you need to be able to access both the UK and EU markets.”

Rossberg adds that the interests of the market would be better served by a focus on expanding the number of clearing participants beyond a narrow focus on incentivising dealers.

“If you look at the kind of market participants that don’t have a clearing obligation, the smaller market users like insurance companies and pension funds, or sovereign bodies, they could be a route to increasing [volumes in] the EU market,” says Rossberg. “If you incentivize these institutions to be on Eurex then maybe we can create more of a critical mass in euro cleared swaps.

“In the end, the problem comes if a big dealer falls over. But those dealers most likely will be in Eurex and LCH and if they if default it will be on both. It doesn’t make it better if it happens on two CCPs. Yes, the positions on each individual CPP at LCH and Eurex might be smaller. But the problem for the market is the total, and if in the end the EU needs to fix it, they definitely can do this more effectively at an EU CCP.”

After the initial regulatory shock of Brexit, Eurex has worked hard to build a robust clearing offering for the continent. It has also remained focused on improving client experiences though a market-driven approach.

Offerings such as margin efficiencies are driving down the cost of clearing and creating the foundations for more efficient and cost-effective capital markets. Eurex’s revenue sharing partnership program has also strengthened the clearing community that is essential to support a healthy, vibrant and sustainable euro swaps market.

“For us this is very positive outcome of a competitive market between different CCPs,” says Bonin. “CCPs are investing, innovating, and working to make their clearing environment more competitive and more attractive for the market. That is a great result of the competition. We strongly welcome all of the work that Eurex and LCH have been doing in this regard. Both from a product and partnership perspective.”

The focus now, should be on providing the regulatory landscape to build further on these early successes.

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