The only way cost is going for OTC products is up – and the result will see structural changes to the firms operating in the OTC market.

The only way cost is going for OTC products is up – and the result will see structural changes to the firms operating in the OTC market. The new regulations increase the amount of capital for OTC trades, and the twin pronged move to clear OTC business and put up the margin on un-cleared business is changing how OTC products are sold or used.

Over the past few years, many firms have struggled to find a business case for OTC Client Clearing, given that operating a standalone unit to process OTC trades whilst funding capital and margin, is hard to recover from Clients. Many firms offer Client clearing for free as a customer retention play, or a reward for execution business. Any firm providing a Client Clearing service needs to provide connectivity to many CCPs across the world, such as those on our chart showing the competitive position of CCPs around the world here: http://www.theotcspace.com/2013/12/01/survey-ccp-progress-us-clearing-mandate-kicked, which is costly to maintain, given the rapid rate of change at many CCPs.

RBS previous combined their Exchange Traded and OTC Client Clearing operating units, as our friend John Wilson well knows, to find cost savings on systems and people. 

An outcome of this is a story at the FT which Philip Stafford broke yesterday that RBS will wind down it's interest rate clearing business over the next few months, citing 'extremely thin margins' (of a profit kind) compared to the investment to remain a volume player. What this means is that OTC trades cleared by RBS on behalf of end-users will need to be transferred to another service provider, and any arrangements where RBS acts as a backup Clearing Broker will also need to be terminated.

The full story is over at the FT (subs required) here: http://www.ft.com/cms/s/0/4d906d92-dea4-11e3-9640-00144feabdc0.html

I wonder whether we will see more consolidation in this space, as CCPs offer to cross-margin OTC and ETD products, firms may need to consider (as RBS have done) the cost versus the benefit of operating a complex service, which is already the bread and butter for Third Party Administrators such as State Street, BoNY, BBH etc.