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The World Federation of Exchanges (“WFE”), which represents more than 200 market infrastructure providers including exchanges and CCPs, today published its response to the Basel Committee on Banking Standards (“BCBS”) Consultative Document: Revisions to the Basel III Leverage Ratio Framework.
WFE RESPONSE
The WFE supports the BCBS’ careful consideration of capital issues generally, and the Leverage Ratio specifically, and recognises that it has listened to stakeholder representations. However, while the rules are designed to strengthen banking capital, they still have a knock-on effect on the wider markets that WFE members operate and clear for. The WFE, therefore, remains concerned around the effect of some elements of the proposal which appear contrary to wider efforts to encourage central clearing of derivatives.
As follows:
- The WFE remains concerned about the impact of not recognising the exposure-reducing effect of client initial margin on fair, orderly and stable markets. An inappropriate application of requirements on Clearing Members will have contagion effects in many other parts of the market for whom they clear, with no clear risk benefit. This in turn will have knock-on effects on the markets and services WFE members offer, such as:
- A market exit of some Clearing Members, increasing concentration risk with the remaining entities;
- Difficulty for end users to use markets to hedge;
- A knock-on effect on non-Clearing Members in terms of capital - with fewer access points, affecting the real economy through higher food and energy costs, and posing greater difficulty in managing retirement funds; and
- More trading OTC, and reduced liquidity and price formation on transparent exchanges, as it will become uneconomical for market makers and liquidity providers to continue contributing liquidity.
- The WFE also has significant concerns that it will become more difficult to port positions in the event of a Clearing Member default (given it is unlikely that any alternative Clearing Member will want to take on positions if the margins that accompany them have the effect of increasing their own potential future exposure – and therefore capital cost).
WFE RECOMMENDATIONS
Notwithstanding general positive movement by the BCBS, the WFE suggests a further modification to the Standardised Approach to Measuring Counterparty Credit Risk (the SA-CCR) method to INCLUDE the offsetting of segregated client initial margin for centrally cleared derivatives transactions, as this would more accurately capture the market structure for centrally cleared derivatives, and the actual economic exposures that Clearing Members incur when providing clearing services.
Nandini Sukumar, CEO, WFE, said: “The WFE and its members are committed to ensuring the trading and clearing environments they operate are secure, stable and able to withstand shocks. We believe, however, that the BCBS’ proposed revisions to the Leverage Ratio framework will result in lower liquidity on transparent central markets, leading to higher spreads, lower volumes, more volatility and greater systemic risk. This is clearly at odds with the wider G-20 mandate, for no additional risk benefit.”
Gavin Hill, Head of Regulatory Affairs, WFE, added: “As we describe in our paper, there is more than $300bn in client segregated initial margin being held at CCPs globally, with the purpose of protecting client cleared trades on each market, and which cannot be used by the Clearing Member for their own purposes. The revised framework does not take this into consideration. Our view is that it should be, and would avoid the contagion outlined above.”
Nandini Sukumar concluded: “Regulators, CCPs and exchanges are all working towards the same, and shared, objectives of achieving fair, robust and resilient markets in which investors can have confidence. Systemic stability remains at the heart of WFE members’ work.”
