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WMBA comments on CCP clearing in OTC markets

26 November 2008  |  2169 views  |  0 Source: Wholesale Market Brokers' Association

The Wholesale Market Brokers' Association ("WMBA"), which represents the world's largest interdealer brokers, wishes to clarify some assumptions regarding central counterparty clearing and emphasise that these benefits are also available in OTC markets.

The WMBA completely endorses the efforts of regulators in both the United States and Europe to encourage the introduction of central counterparty clearing in OTC markets, such as credit derivatives, in order to mitigate counterparty credit risk. However, the WMBA would like to stress that several OTC markets are already fully compatible with the smooth operation of a central counterparty ("CCP") facility. For example, OTC products such as US Treasuries, European interest rate swaps, OTC equities, spot foreign exchange and carbon emissions have been executed OTC and cleared centrally for some time.

For the purposes of counterparty risk, it is essential to note that in OTC markets the means of execution is not relevant as long as transactions are matched and confirmed electronically. Therefore, voice assisted or fully automated OTC trading is entirely consistent with, and supportive of, the existence of a CCP. However, while executing trades on an exchange generally involves a CCP, and while exchanges themselves often own the CCPs that clears trades executed OTC, trading on an exchange is not the sole means by which transactions can be centrally cleared.

WMBA's Chief Executive, Stewart Lloyd-Jones, said "Currently, on-the-run U.S. Treasuries trade OTC fully electronically, but clear centrally through the DTCC. U.S. Energy derivatives trade OTC via voice brokers and electronically, but are also centrally cleared through ICE or NYMEX/CME. Similarly, this applies to the operation of CLS in foreign exchange markets. These have proven to be effective mechanisms and such structures can be duplicated elsewhere in the OTC world.

By way of illustration, approximately 60% of OTC European Credit Derivatives traded via interdealer brokers are executed electronically. Furthermore, nearly all European Credit Derivatives transacted via interdealer brokers, including those that are executed by voice, are fed into identical straight through processing formatats. As a result, this OTC market is now ready to support a CCP."

Stewart Lloyd-Jones continues: "The OTC markets have traded, and need to continue to trade, separately from exchange markets for many reasons. OTC markets are both larger in scale than exchange markets and may be customised to render them a flexible risk management tool. As such, their use benefits governments, corporations, investors and individuals worldwide. Also, an inaccurate distinction is often made between "regulated" and "unregulated" markets, with exchange markets often being presented as "regulated" due to exchanges being mandated to regulate the content, behaviour and participation in specified products. The perception that all OTC markets are unregulated is incorrect. All major OTC financial market participants are individually regulated and supervised. Interdealer brokers' activities are overseen by national regulators, including the SEC, CFTC, FINRA and the FSA. In contrast to exchanges, the primary regulatory focus in OTC markets is on the participants themselves." "In conclusion, as demonstrated above, given that many of these products have already embraced the benefits of CCP clearing, there is no need to move to an exchange in order to clear OTC products."

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