Esma Proposes CCP Margin Model Disclosures

Clearinghouses, also known as central counterparties (CCPs), would be forced to “publicly disclose the parameter and information on the models used in the calculation of margin requirements” according to draft guidelines issued by the European Securities and Markets Authority (Esma) as part of a wider consultation that seeks to examine risk-management practices at CCPs.

These disclosures, Esma says, must be of “sufficient granularity” in order for participants in clearinghouses—both direct members and those who use the client-clearing services of members—to anticipate large hikes in margin requirements that can occur due to the changing economics of a trade or turbulent market conditions.

One example of such conditions was the immediate aftermath of the UK’s decision to leave the European Union, in June 2016. Following the referendum vote and its unexpected results, clearinghouses began calling for tens of billions of dollars in extra collateral as the reaction to the vote whipsawed through the market, with most of these amounts having to be posted within one hour of a demand being made.

Esma has suggested a “non-exhaustive” list covering quantitative methodologies and parameters used in margin modeling, which would nonetheless “allow for the replication of margin calculation.”

A number of CCPs contacted by WatersTechnology, including LCH, the largest European CCP, said that they needed more time to digest the consultation and declined to comment. A number of FCMs also said that they would be responding through their trade bodies and declined to comment directly at this time.

The issue has been a long-running point of contention between CCPs, their members, which are primarily comprised of the large dealer banks and large non-bank futures commission merchants, and client clearers, which tend to be buy-side firms and lower-tier regional banks.

Members argue that, without extensive disclosures by CCPs, they are unable to replicate margin models in-house and are therefore unable to adequately prepare for market shocks. This has become more important than ever, they say, since post-crisis reforms mandated that most standardized derivatives be cleared through a CCP.

As such, the importance of CCPs—which are generally owned by exchanges, including the London Stock Exchange, Intercontinental Exchange Group, Nasdaq and Deutsche Borse, among others—and the extent to which risk is concentrated in these entities has become a matter of international importance, with some prominent regulators dubbing CCPs the new “too big to fail” entities.

For their part, clearinghouses argue that they already disclose enough information, both voluntarily through the risk committee that governs the CCP but also through quarterly quantitative disclosures that follow a framework drawn up by the Committee on Payments and Market Infrastructures and the International Organization of Securities Commissions (CPMI-Iosco). Many also offer “margin calculators” on their websites or secure extranets that allow for the estimation of margin costs on trades.

The Esma proposals go further than suggestions from the European Commission in May 2017, which were designed more to ensure compliance with CPMI-Iosco standards rather than to mandate disclosure of methodologies.

Furthermore, CCPs argue, any extensive disclosure of exactly how their margin models work could introduce the possibility that market participants will use that information to “game” the margin models at clearinghouses, or challenge the CCP to lower its risk-management requirements.

FCMs reject this assertion and counter that, without enough insight into these models, it is also impossible for the wider membership to ensure that the CCP is adequately measuring risk.

In a letter to the UK Treasury in August 2017, the Futures Industry Association (FIA), which represents FCMs, said it is “vital that initial margin requirements are effective, transparent and predictable to all participants.”