The Bank of England held a roundtable meeting on Oct. 7 with industry participants to discuss the recently proposed international guidance on clearinghouse resiliency, recovery and resolution. The meeting included representatives from market participants and industry associations representing the buy-side and the sell-side, and complemented a similar meeting held by the Bank of England with market infrastructure providers. The meeting was divided into two parts: the first part focused on the proposed CPMI-IOSCO guidance on resiliency and recovery, and the second part focused on the FSB guidance on resolution (For details on these proposals, see the FIA Special Alert issued on Aug. 17).
Please note that the Bank of England roundtable was held under Chatham House Rules. In producing this summary note, FIA took care not to attribute any views to individuals attending the roundtable or the institutions that they represented, therefore readers should not construe any statement in this note as belonging to a particular individual or institution.
Stress-testing
Both sell-side and buy-side called for more granular rules for stress-testing and for more public disclosures of stress-testing frameworks and results, and put forward several suggestions for specific improvements to stress-testing methodologies. They also called for coordinated stress-testing between connected CCPs.
Margin
Participants agreed that there should be more consistency across margining models of different CCPs and less inconsistency between jurisdictions, and noted that there are instances where the same product is subject to different initial margin requirement in different jurisdictions. Participants emphasized that intra-day variation margin calls should not be a substitute for robust IM models. Participants also emphasized that intra-day margin calls should go both ways (i.e. that the CCPs need to pay out as well as collect margin), otherwise there is a danger of a liquidity drain.
The participants also discussed back-testing requirements for margin models, another element of the proposed guidance. The participants stressed the importance of back-testing and made a number of recommendations, such as including both actual and theoretical portfolios and including a minimum number of stress events. As with stress testing, the participants called for more transparency into back-testing models.
Governance
Participants recommended that a clearinghouse's board of directors should take responsibility for all areas that relate to CCP risk, not only to stress-testing and margin, and called for more involvement by market participants in risk committees and other clearinghouse governance processes. Regarding risk committee role and composition, they said that the rules should be clear as to whom committee members owe duty (the CCP or their firms) and how confidentiality rules work. They also called for more consistency across regions regarding the process for consulting on CCP rules and emphasized the need for a robust "comply or explain" mechanism for responding to feedback in the consultation process.
Variation margin gains haircutting
Buy-side representatives emphasized their concerns about the potential use of this tool, which introduces the possibility that some of the variation margin gains owed to non-defaulting customers might be used to replenish a clearinghouse's financial resources. The buy-side representatives said VMGH should never be used by the CCP in recovery and should be available only in the context of a clearinghouse resolution by the resolution authority. It was pointed out that the alternative to using VMGH may be the insolvency of the clearinghouse, but some participants thought that continuity of a CCP is not always a good outcome.
Skin-in-the-game
Participants called for higher levels of "skin-in-the-game," the term used to refer to the financial resources that come from the clearinghouses themselves, rather than members or customers. It was suggested that the amount of skin-in-the-game should not be linked to the size of the default fund, because CCPs would be then incentivized to lower the size of their default funds. Participants also suggested that non-default losses should be covered entirely by the CCPs, and urged regulators to review the amount of capital that CCPs need to hold for operational risk.
Timing of entry into resolution
This part of the discussion focused on when the resolution authority should step into the process of dealing with a catastrophic default and ‘saving the CCP’. Participants noted that in the U.K., the Bank of England would already be in the room when a clearing member is declared in default, but at such time it would have a "market infrastructure" as opposed to "resolution" perspective. Several participants pointed to the success of auction process as the key indicator for whether the resolution authority should step in. Participants also said resolution authority should monitor the use of default fund and gauge the confidence of market participants. Most participants agreed that the resolution authority should intervene before the end of the "default waterfall". A resolution authority should step in when market price is not discoverable and such a determination should be made by the resolution authority, not the CCP. There was also a call for consistent definition of “entry into resolution” around the globe.
FIA will continue to monitor the global effort to strengthen clearinghouse standards.
