Commodity Futures Trading Commission (CFTC)
Market Risk Advisory Committee (MRAC) Meeting
Key Topics & Takeaways
for CCP Access to Fed Discount Window: Several
Advisory Committee members called for CCPs to have access to the Federal
Reserve’s discount window during times of stress to ensure they have
adequate access to liquidity. Emily Portney (J.P. Morgan) agreed
that market participants are “incredibly aligned” on the need for CCPs to
have access to the Fed’s discount window and that clarity of when the Fed
would step in (in the next crisis) would help “restore confidence” in
markets. Richard Miller (Prudential Financial) highlighted the irony that
derivatives users are compelled by the Dodd-Frank Act to clear
transactions through CCPs, yet a CCP in the next crisis may not have
sufficient access to liquidity facilities, such as the Fed’s discount
window, which would likely result in losses and further exacerbate
stressed market conditions.
Transparency on CCP Risk Protocols: Kristin Walters
(BlackRock) called for more transparency on the loss absorbing resources
of CCPs, how stress testing is conducted, and whether clients will be made
whole in the event of a CCP default. Without this information, she
claimed, the buy-side does not have sufficient information to assess its
clients’ counterparty credit risk, even though they have a fiduciary
responsibility to do so.
Leverage Ratio’s Impact on Clearing: Several market participants
called on the Basel Committee to address the industry’s concern about the
Supplementary Leverage Ratio’s (SLR’s) treatment of client clearing, when
they meet next in December. Portney (J.P. Morgan) explained that the
SLR’s off-balance sheet exposure calculation overstates capital
requirements, because it does not recognize the offsetting nature of
segregated initial margin. Chair Massad clarified that he “strongly
supports having stronger capital requirements for banks,” and that he
“appreciates the SLR as a non-risk based backstop;” however, Massad called
for a “measure of exposure which is realistic” and that allows market
participants to hedge risks.
- Susan O’Flynn,
Managing Director and Global Head of CCP Strategy, Governance and Optimization,
- Kevin McClear,
General Counsel at Intercontinental Exchange, Inc (ICE)
remarks by Chair Massad
opened by reiterating that the issue of central counterparty (CCP) resilience
is critical, and that he believes it is very important for regulators to focus
on CCP strength and resilience since they have become critical financial market
infrastructures (FMIs) as a result of central clearing mandates.
Opening remarks by Commissioner Bowen
referenced her work at Securities Investor Protection Corporation (SIPC)
dealing with failures of various securities brokerage firms, which she said
demonstrated how “devastating” a collapse of a critical firm of FMI can be to
the markets and end users. As a result, she said, the importance of
effective, robust risk management of CCPs “cannot be overstated.”
Bowen also noted the progress made by the CCP Risk Management Subcommittee and
stated that she looked forward to learning MRAC’s views on how to further
coordinate CCPs to prepare for (and mitigate the effects of) a default of a
significant clearing member.
Panel 1: Recommendation 1: Interdependencies Among CCPs and Key
O’Flynn, Session Moderator
Managing Director and Global Head of CCP Strategy, Governance and Optimization,
Morgan Stanley, moderated the session and opened by briefly summarizing the recommendations
made by the CCP Risk Management Subcommittee on “Enhancing CCPs’ Preparedness
for the Default of a Significant Clearing Member.”
address interdependencies among CCPs and key intermediaries or markets, O’Flynn
explained that the Subcommittee’s recommendations were to: 1) incorporate in
default drills the potential default of a large liquidity provider; 2) expand
stress testing to cover a scenario in which the clearing members with the two
largest liquidity obligations default; and 3) disclose CCP liquidity resources
(while preserving confidentiality, as necessary) to a broad audience.
Alternative Liquidity Facilities for CCPs
Cutinho, President of CME Clearing, CME Group, claimed that most of the
Subcommittee’s recommendations are already addressed in CFTC rules. He
also emphasized the importance that liquidity facilities take into account the
potential default of custodians and settlement banks, which are important
operationally to move funds. He cautioned that it is impractical to
expect a clearing member to have multiple settlement banks; rather they move to
alternates if the primary has defaulted. Cutinho explained that
custodians are also widely used by non-CCPs, so it is important for CCPs to
support a broad array of custodians. He further argued that it is
important for the primary regulators to have good insight into how the
custodians will perform under resolution [primarily when the Federal Deposit
Insurance Corporation (FDIC)] steps in. Cutinho encouraged the CFTC to consider
additional alternatives such as central securities depositories (CSDs).
McLaughlin, Group Chief Risk Officer, LCH. Clearnet, supported the
Subcommittee’s recommendations and suggested that “more could be done” beyond
those recommendations. McLaughlin also explained that, in a stress event,
it is difficult to find a “home” for cash under the current regulatory framework,
and he suggested allowing CCPs to have a deposit account with the central bank
to ensure client assets are safe. Regarding portability, McLaughlin
claimed that, in a stress scenario, it is “difficult to see” which
non-defaulting member would actually take on the clients of the defaulting
McClear, General Counsel at Intercontinental Exchange, Inc
(ICE) explained that the interdependencies examined in the recommendations “all
eventually come down to liquidity.”
Transparency through Disclosure
explained that ICE is “highly transparent” with clearing members and
regulators. He noted that the disclosure requirements under the
Principles for Financial Market Infrastructures (PFMIs) are highly detailed and
will be implemented in 2016. McClear also reminded the MRAC that CCPs
have to be careful about what they disclose to a wider market, due to
Kloet, Trustee, Elmhurst College, asked whether it was in the public interest
to disclose CCPs’ liquidity resources. McClear explained that there are limits
to the granularity of data that can be provided without breaking
confidentiality agreements, but suggested that broad reporting requirements
(such as grouped by assets) should be okay. Cutinho claimed that its
liquidity facility resources are publicly available on the CME Group’s website.
O’Flynn agreed that preserving confidentiality is “critical” but also agreed
that it is important for a CCP to disclose its liquidity resources to show its
exposure to different client bases.
Kristin Walters, Global Chief Operating
Officer of Risk and Quantitative Analysis Group, BlackRock, called for more
transparency on the loss absorbing resources of CCPs, how stress testing is
conducted, and whether in default clients will be made whole. Without
this information, she claimed, the buy-side does not have sufficient
information to assess its clients’ counterparty credit risk, even though they
have a fiduciary responsibility to do so. Walters also explained that
standardized disclosures make it much easier for market participants to compare
data across counterparties, and claimed that the firm takes “greater comfort”
in supervisory stress tests than firm-driven ones. Cutinho responded with
surprise, stating that their CCP publicly discloses information on its
available financial resources and that it is routinely subject to credit
reviews from clearing members and clients. He also noted that the
CPMI-IOSCO (Committee on Payments and Market Infrastructures-International
Organization of Securities Commissions) disclosures will enhance disclosure on
an aggregate level.
in Light of Shrinking Repo Markets and Bank Balance Sheets
explained that, in a default event, a CCP must convert margin into cash; and
warned that while non-member banks (custodians, settlement banks, etc.) have
financial resources, they might not be able to convert that margin into cash
“at the drop of the hat.” McLaughlin conveyed that CCPs must be able to invest
margin somewhere – such as in repo markets – in order for CCPs to be able to
access liquidity. However, he noted that shrinking repo markets and bank
balance sheet capacity may render these resources unreliable in a stress
scenario. Cutinho also stressed that it is unrealistic to expect a large
liquidity facility to be provided independent of banks. He explained that
CME and other CCPs are looking at non-bank sources for committed liquidity
facilities, but even these alternative sources use banks in some capacity, and
the pricing is not as competitive as what banks offer for liquidity
facilities. McClear explained that since repo markets are tight,
expensive, and may not be reliable, they are exploring non-bank facilities,
which he said is still in an exploratory phase.
Access to Federal Reserve’s Discount Window
(ICE) claimed that the “best and safest place” to place cash is with the
central bank, and called for CCPs to have access to the Fed discount window
only during times of stress. Clifford Lewis, Independent Director, Eurex
Clearing, also claimed that access to the Fed discount window is important; and
urged better coordination with the monetary authority (as well as the FDIC) to
ensure that the philosophy of resolution accounts for these issues from the
markets/derivatives industry perspective.
also supported the proposal for systemically important CCPs to have access to
the Fed discount window. Richard Miller, General Counsel, Prudential
Financial, highlighted the irony that derivatives users are compelled by the
Dodd-Frank Act to clear transactions through CCPs, yet a CCP in the next crisis
may not have sufficient access to liquidity facilities, such as the Fed’s
discount window, which would likely result in losses and further exacerbate
stressed market conditions. Emily Portney, Global Head of Agency
Clearing, Collateral Management and Execution, JP Morgan, agreed that market
participants are “incredibly aligned” on the need for CCPs to have access to
the Fed’s discount window and that clarity of when the Fed would step in would
help “restore confidence” in markets.
Panel 2: Recommendation 2 – Portability and FCM Resource
explained that the second panel would consider the resources available to
Futures Commission Merchants (FCMs) in light of the constraints they face in
the new regulatory environment.
underscored the importance of ensuring that customers have continued access to
the market throughout the porting process. The most effective way to do
that, he claimed, is to port a group of customers all at one time to avoid
picking and choosing, as well as using negative client consent to move
customers rapidly to a new home. Cutinho also called for regulators to give
relief to receiving FCMs with regard to the “know your customer” (KYC) due
diligence process, so they can expedite the porting process.
(ICE) agreed that there must be sufficient margin posted to manage risk in
order to continue clearing for clients and facilitate porting. He also
reiterated the need to move fast to effect porting before the market
Yared, Managing Director, Goldman Sachs, argued that it will be difficult, in
practice, for FCMs to take on the entire portfolio of a failing clearing member
due to regulatory constraints. She claimed that if firms do not have a
backup plan and another FCM cannot take all of their clients, they will likely
be closed out and lose market access. Yared also noted that Bank of England
is holding a joint drill between CCPs to simulate coordination and porting in a
stated that the MRAC needed to analyze new membership models (such as direct
access and sponsorship models). Miller said that he and other financial
end-users are interested in an indirect access model provided they are not
liable to mutualized risk. Yared highlighted the practical difficulties
in developing an access model on a non-mutualized basis, which would be
difficult to implement without finding a way to compensate “willing
mutualizers” for the risk that they are taking on.
Resources of FCMs
explained that having enough financial resources (margin) available for
customers is paramount.
Supplementary Leverage Ratio and Client Clearing
argued that the Basel capital rules are a “mistake” for the agency side, since
they treat client risks as banks’ risk even when they are acting purely as an
agent. Cutinho hoped that the Basel Committee would address the
industry’s concerns on this issue, particularly the Supplementary Leverage
Ratio (SLR)’s treatment of client clearing, when they meet next in
explained that the SLR’s off-balance sheet exposure calculation overstates
capital requirements, because it does not recognize the offsetting nature of
segregated initial margin. Chair Massad clarified that he “strongly supports
having stronger capital requirements for banks,” and that he “appreciates the
SLR as a non-risk based backstop.” However, he reiterated his concerns
regarding the SLR’s exposure measurement methodology and the effects it may
have on client clearing. Massad called for a “measure of exposure which
is realistic” and allows market participants to hedge risks.
Panel 3 -The Buyside Perspective
Patel, Putnam Investments
Patel, Senior Vice President, Putnam Investments, said that concentration of
clearing activity among a few CCPs and FCMs has increased the level of risk at
each one and said there is a need for clear resolution processes. She explained
that asset managers were in some respects “better off” before market reforms
were put in to assess the viability and risks of counterparties.
Thum, Principal, Vanguard on behalf of SIFMA AMG, stressed the importance of
CCP resilience and recovery and resolution, noting that asset managers have a
fiduciary duty to assess the risk of their counterparties. He said
implementation of the PFMIs across jurisdictions lacks consistency, standardization,
and transparency, which leaves asset managers unable to compare processes
across products and regimes.
explained that SIFMA AMG’s letter to the
CPMI and IOSCO on CCPs recommended: 1) minimum standards for resolution
processes; 2) enhanced safeguards in situations of multiple entity failures; 3)
mandatory public reporting of CCP stress test results; 4) standardized CCP
capital commitments; 5) clear resolution standards, including for determining
the “point of no return;” 6) preventing use of non-defaulting parties’ initial
and variation margin in a CCP resolution; and 7) independent verification of
stress testing, among others.
also stated that CCP contributions to the guarantee fund should be increased
and that these levels should be mandated and set at certain risk-based levels.
Thum suggested that contributions to guarantee funds be pre-funded, that the
totality of a CCP’s loss absorbing capacity be disclosed, and that a CCP’s
margin methodology be disclosed.
said that her organization supports the SIFMA AMG letter and noted that the
comments were unanimous among the group’s members that participated. She
said it is critical for the voice of end-investors to be heard and said that
using variation or initial margin in a default would be tantamount to a tax on
end-users of financial products.
said that CCP loss absorbing resources are insufficient and that default
waterfalls need to be strengthened. She offered BlackRock’s recommendations,
which include: 1) increasing CCP’s risk based contribution to the guarantee
fund; 2) pre-funding customer assessments to incent robust risk management of
CCPs and align their incentives with those of market participants; 3)
increasing transparency and consistency of risk management practices; 4)
requiring more detail on the top five to ten counterparty concentration levels;
5) having stress tests subject to independent validation and regulatory
oversight; and 6) requiring products to be cleared by at least two CCPs, among
others. She added that CCPs should be allowed to fail and noted that the
majority of customers would “rather be money good than position good.”
explained that CME has many loss absorbing resources including margin,
guarantee funds, and mutualized losses and said their assessments are based on
a “cover two” basis. He added that the scenario of one clearing member failing
at multiple clearing houses is taken into account because there is no netting
between clearing houses.
said that pre-funding customer assessments would not provide better protection
and that it would be a better approach to pre-fund in the default waterfall.
stressed that the buyside is looking for a regulator to set minimum standards
and require transparent reporting for resolution processes. He then expressed
concern with discussions around margin haircutting as a means to fund a
agreed that margin haircutting is not a good approach but said that margin
gains haircutting would incent participation in default auctions.
noted that in Europe, tri-party custody of margin money is allowed for futures,
but explained that this additional protection costs more.
stressed that guidelines for mandated clearing need to be refreshed regularly
to make sure clearing is available at more than one CCP. He stated that best
practices and standardized thresholds would allow risk management to see how
CCPs are performing.
said his firm is a directional player in the market and that it would like to
see greater transparency and consistency, because its “hands are tied” when
trying to look closer at the resolution processes of CCPs.
challenged the notion that CCP contributions should be risk-based, saying CCPs
do not bring risk to the market because they are in the middle of transactions.
He said it would be dangerous to impose a risk-based requirement because it may
incent participants further down the waterfall to increase their risk.
stated that CCP contributions bring discipline to the CCP’s role of assessing
FCMs and conducting margin calculations.
said that CCP contributions, and their “skin in the game,” are made from a risk
perspective based on the amount risk they bring to the system. He said that CCP
operational risk and other risks that under the control of a CCP should be
borne by the CCP, but said that in the “defaulter pays” model of a clearing
member failure, a CCP cannot subsidize clearing member risk.
said that CCPs can and do make risk decisions such as determining what products
to clear, calculating margin requirements, and determining collateral
requirements. She added that the consensus view of CCPs end-users and customers
is that they want CCPs to “have more skin in the game.”
information about this event can be accessed here.
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