Collateral mobility key to a successful post-trade Europe

Of all the topics discussed at the 5th annual Marketforce conference The Future of Clearing & Settlement, the one recurrent theme was that of collateral management. The post-trade landscape in Europe is changing rapidly under a ‘tidal wave’ of regulations and directives. The infrastructures themselves are ready for these changes, but the readiness of market participants is a concern.

“We must learn from what happened in the US under the Dodd-Frank Act,” said one panellist at the event. “For example, in the clearing space, there was always a late surge of registration activity as the phased in deadlines approached. This increases costs for market participants – they need to get ready early.”

There has already been an example of this happening in Europe with the 12 February trade reporting mandate. The deadline was confirmed in October 2013 and it was not until after that date that there was a surge of activity at the trade repositories. “The regulatory delays did not help and we are still in a position where a number of clients are still approaching us,” said a spokesperson from one of the approved repositories.

Indeed, communication to market participants about the regulations and their compliance is still a key concern across the post-trade landscape. “We are now at a point where regulatory plans are becoming a reality – the hard work of implementation has begun,” said another panellist. “Communication throughout the industry is key. Without efficient plumbing, there would be no economic markets.”

One area that market participants can still get ahead of the game is with central clearing. That goes for the buy-side as well as the sell-side. “We have had the introduction of a buy-side user group,” said a spokesperson from one of the European CCPs. “It is a sector that is growing in importance and cannot be ignored. It has an expanding role and if a buy-side client meets our membership criteria, then why not have a buy-side clearing member?” There is, however, still an anticipation of a big rush towards the clearing deadline as was experienced in the US.

There is also recognition amongst the clearing community that consolidation in the space is inevitable as clearing houses look to return to profit. The increasing competitive element in the landscape is forcing mergers and the process has begun with EuroCCP and EMCF merging into EuroCCP, Oslo Clearing merging into SIX x-clear and LSE acquiring LCH.Clearnet. Similar developments can be expected in the CSD space, too.

The central theme of the conference, however, was collateral. The new post-trade world will be heavily collateralised to ensure its safety and robustness. There has been a lot written and said about a collateral shortfall in the market, but as one panellist pointed out, “we will not know the full extent until mandatory central clearing goes live. There is tension in this area around the passage of collateral from end investor to clearing house and the default procedures. There is also tension between the range of collateral accepted to satisfy market needs at clearing houses and the acceptable forms of collateral to ensure that there is sufficient liquidity at the clearing house in the event of a clearing member default.”

This would appear to be an obvious sticking point in a competitive market – it almost seems inevitable that CCPs will have to expand their own range of acceptable collateral in order to attract and keep clients.

“Collateral management is now the prime risk mitigator,” said another panellist. “Grumbling about the cost of collateralisation will grow louder as memories of the financial crises fade. Whilst it is difficult to assess the scale of the extra collateral demand at the moment, this is not a question of supply and demand; it is a question of mobility.”

Whilst various vehicles are put out to market, such as Clearsteam’s Liquidity Hub, it remains true that whilst there will be at least a collateral strain, no one will know the full extent of the issue facing the market until the clearing mandate goes live. This area is, at least, one in which people need to be ahead of the game.

Tags: RegulationCCPsCollateralTrade ReportingClearing