Central clearing counterparties (CCPs) are “a bit of a mess in the securities finance context” according to Greg Lyons, a partner at law firm Debevoise & Plimpton.
CCPs are used by derivatives exchanges and more recently they have been introduced into many more securities markets, such as over-the-counter (OTC) markets.
In 2009, in reaction to the financial crisis, a G20 summit decided that all standardised OTC derivative contracts should be through central counterparties by the end of 2012. In the US this is being done by the Securities and Exchange Commission (SEC) as part of Dodd-Frank, and in Europe it is being enforced by the European Market Infrastructure Regulation (EMIR).
While there is no explicit CCP programme for securities lending, market participants are concerned that regulators could impose a similar model upon the securities lending industry
Speaking at the Risk Management Association (RMA) conference in Florida this week, Lyons followed his comment by saying he is concerned that simply because regulators like CCPs these intermediaries may be introduced to the securities finance industry.
At the moment CCP services for securities lending are offered by two electronic trading platforms: Quadriserv in the US, whose AQS platform relies on a CCP service from the OCC, and SecFinex in Europe, which relies on LCH.Clearnet and SIX x-clear.
Pat Cestaro, vice chairman of Quadriserv, however, questioned Lyons’ assessment and said that it had “a pretty robust programme.”
Lyons clarified his comments by saying that "it is not issue with systems", but that there are basic structures within the CCP model that don’t sit well with securities lending, such as margin additional requirements.
“CCPs were not designed for securities lending - can they be retrofitted?”, he said.
CCPs are intended to mitigate counterparty risk in securities lending transactions by collecting margin from the lender and the borrower. In theory this protects the CCP if the borrower fails to return the securities or the lender fails to return the collateral.
Chris Kunkle, the RMA’s director of securities lending and market risk, said that those who are not used to posting margin would not be happy to start doing so, particularly underfunded pension funds.