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February 25, 2014

MIFID II CCP competition “reaction overblown” | Goldman in Financial News

Goldman's research group suggests that market excitement is overblown about MIFID II allowing participants to select their choice of CCP rather than the one currently dictated by an exchange or other trading platform.

Goldman's research group suggests that market excitement is overblown about MIFID II allowing participants to select their choice of CCP rather than the one currently dictated by an exchange or other trading platform.

Why?

From the summary in Financial News (subscription), Goldman seems to assert that incumbent exchanges have the ability to mute the effect of competition from other CCPs through one or more of the following:

  • Delay: Possible delayed introduction of the rules until 2019
  • Denial of access: to new CCPs over concern on risk management standards
  • Using pricing: Permitted pricing of clearing to the incumbent CCPs advantage

Let's assume that delay and denial of access can be overcome (at least eventually).  So then it comes down to using pricing.  

Using pricing?

On one hand, an exchange could disincentivize clearing at an "away CCP" by charging a single execution and clearing combined fee regardless of whether the participant clears there or elsewhere.  

On the other hand, an exchange could disincentivize executing at an "away exchange" by charging higher clearing fees to participants who cleared with its CCP but executed a fungible product at another exchange.

Why would a participant want to use one of these options despite adverse clearing costs?   Consolidation and netting benefits on CCP counterparty risk, margin and capital.  Two cases:

1.  Cross-exchange futures consolidation in a single CCP  e.g. LIFFE is mostly short-term and Eurex is mostly long-term.  There could be signficant marign offsets between short and long end futures.

2.  Single CCP consolidated portfolio margining across futures, swaps and/or repo.  Benefits could be more substantial given larger open interest and higher margin rates of swaps.   However, portfolio margining has a way to go to become widely used especially on the buy side.  Also the first CCPs out of the starting gate with these products are incumbent futures exchanges (CME, Eurex noted so far).

Audience participation question: Does anyone know whether Goldman's analysts factored these two aspects into their assessment?


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