International clearers form ‘Liquidity Alliance’
An alliance between central securities depositories in Germany, Spain, Brazil, South Africa and Australia aims to tackle the expected global shortfall in collateral arising from tough new financial regulation.
Dubbed the ‘Liquidity Alliance’, the group consists of Clearstream, Iberclear, Cetip, Strate and ASX respectively. The five companies will meet each quarter to work out the most efficient way of dealing with collateral and to discuss partnerships, commercial opportunities and key issues.
The group is in many ways a response to the rising collateral requirements imposed by new international trading and banking rules. Under Basel III, banks will be subject to higher collateral requirements. At the same time, new trading rules contained in Dodd-Frank in the US and EMIR in the European Union will require banks to post margin at central counterparties for the majority of OTC derivatives, or pay huge fees to use more customised bilaterally traded contracts.
According to research published by BNY Mellon and Rule Financial in December, the amount of initial margin that will have to be sourced can be substantial – around 1-3% of the notional value of the contract for a typical 5-year vanilla interest rate swap. For long-dated or complex contracts, the amount of collateral required increases substantially because of the greater potential future exposure, to around 10% of notional for a 30-year and 15% of notional for 50-year tenors. In addition, the Investment Management Association has identified as “not unusual” the requirement for CCP-eligible collateral equivalent to 20% of the investment value of test portfolios to be able to meet initial and variation margin obligations on typical OTC derivatives strategies under mandatory clearing.
The idea behind the liquidity alliance is to share expertise and information on how to use the collateral as efficiently as possible and avoid possible shortfalls; the members have also said they are looking forward to taking on new members in the future.
“The Liquidity Alliance believes that forging partnerships with other like-minded infrastructures is the most sustainable way of extending reach and enabling cross-border collateral optimisation on a short time-to-market basis,” said the group in an official statement. “This is key if market participants are to meet the new requirements and find effective global solutions to this ongoing global problem.”
Earlier this month, Citi established a set of alliances with Clearstream and Euroclear Bank that it claims will transform the way broker-dealers manage their collateral. Previously, broker-dealers would work out which assets to collateralise and then move them from their own trading accounts to the tripartite agent who would manage the collateralisation. However, under the new deal with Citi, the agent will now instruct the collateral moves on behalf of the broker-dealer, potentially making the whole process easier.
“Optimising collateral means creating and using the widest possible collateral pools without jeopardising individual and country-specific requirements and the liquidity alliance is a major step in delivering a truly global liquidity and collateral pool,” said Stefan Lepp, chief executive at Clearstream Banking.