Since central clearing parties will now process most over-the-counter derivatives transactions, every CCP should understand each other and how firms conduct business.
That’s one of the conclusions of the Payments Risk Committee, a committee sponsored by the New York Federal Reserve. It contains some of the biggest banks that have a stake in these controversial contracts
“The PRC believes that reporting of risk management practices at CCPs is fundamental to enable clearing members to conduct their own due diligence on the risks they face as clearing members,” the PRC said.
The committee recommends a common framework for reporting, which “is expected to encourage greater consistency in reporting across CCPs.”
The report, titled “Recommendations for Supporting Clearing Member Due Diligence of Central Counterparties,” provides advice for CCPs about how they should operate
Some of the subjects covered include areas such as initial margin and guaranty fund methodology, evaluation and monitoring of clearing members, collateral structures, governance, default procedures, and CCP investment balances and policy, among others.
Clearing OTC derivatives through CCPs is one of the methods that lawmakers advocated in the Dodd-Frank Wall Street Reform and Consumer Protection Act. The law, which is being translated into hundreds of rules, is viewed as helping prevent another market meltdown like that of 2008.
That crash was blamed by some on the dealer-to-dealer, or bi-lateral, method of processing OTC transactions. Critics claimed the model allowed a handful of big dealers to exert too much control over the market.
Most of these OTC derivatives will now be cleared through CCPs and other entities with publicly available information.
“The ultimate goal,” the PRC’s report says, “is that clearing member banks will not only have the data necessary to better evaluate the risks they face, but that in so doing all market participants will better understand the unique and critically important role played by the CCP, enabling systemic risks to be addressed before they have opportunity to surface.”
