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The Clearing Corporation: Best Practices August 11, 2005

The Clearing Corporation: Best Practices August 11, 2005. The Clearing Corporation (CCorp).

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The Clearing Corporation: Best Practices August 11, 2005

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  1. The Clearing Corporation:Best PracticesAugust 11, 2005

  2. The Clearing Corporation (CCorp) • CCorp is an independent clearinghouse incorporated in 1925, under the laws of the State of Delaware. CCorp’s independence serves to ensure that its decisions are based purely on promoting the safety and soundness of the marketplace. • CCorp is currently owned by some 50 stockholders, consisting of domestic and international banks, commercial firms, investment houses, futures commission merchants, broker-dealers, and sole proprietors. • Clearing participants are not required to hold shares of CCorp stock in order to clear through The Clearing Corporation; rather, they pledge a contribution to the Guaranty Fund, based on trading activity. • CCorp reduces counterparty risk by interposing itself between the clearing participants to a transaction

  3. Risk Management Strategy • Admission Standards • Position Monitoring and Surveillance • Original Margin • Variation Settlement • Financial Reporting and Surveillance • Stress Testing • Net Settlement Trigger Points • Participant Oversight

  4. Admission Standards • Stringent, initial and ongoing, credit related qualifications for participants • The participant admission process and related standards are CCorp’s first line of defense in managing counterparty risk. The objectives are to ensure that: • Only credit-worthy parties are allowed to participate. • Every similarly situated applicant for participation is treated equally. • Each applicant for participation is not accepted until a comprehensive initial credit review has been conducted. • Each applicant required to have a sound back office facility and experienced staff.

  5. Position Monitoring and Surveillance • Each clearing participant must regularly post sufficient collateral (margin) to cover the expected daily market move • Intra-day Position monitoring • Regular financial reporting requirements and surveillance practices

  6. Original Margin • Margin levels • Margin deposits are used to collateralize the risk of an adverse price change • Covers 95% to 99% of historical one-day price moves • Qualifications • Active secondary market that provides sufficient liquidity • Accurate, reliable, and timely quotation system • Clearing Corporation must be capable of obtaining a perfected security interest

  7. Monthly Margin Application

  8. ACCEPTABLE FORMS of ORIGINAL MARGIN • Cash • Treasury Securities • Foreign Sovereign Debt • Letters of Credit • Common Stock • Money Market funds • Municipal Bonds • Corporate Bonds • Commercial Paper • Government Agency Securities and debt

  9. Variation Settlement • Clearing participants’ net positions are marked-to-market at least twice every trading day. • Mitigates the risk of loss accumulation.

  10. Stress Testing • An annual study covering 10 years of the price change history is used to determine the appropriate stress testing intervals. • To show the market risk associated with the worst-case scenario due to a participant default. • Stress tests of each participant’s proprietary and customer positions are run daily to evaluate the potential exposure to each firm.

  11. Reports for Accessing Clearing House Exposure

  12. Multiple Strategy Position Risk Advisor

  13. Multi-Layered Stress Testing Account Structure

  14. Strategy Statistic for Products

  15. Flexible Stress-Testing Report

  16. Intraday Liquidity Trigger Points • Intra-day settlement risk • Risk that a clearing participant will be unable to pay the variation settlement arising from intra-day trading losses. • Limits on the amount of credit risk that The Clearing Corporation will assume on an intra-day basis. • Intraday liquidity trigger point established for each clearing participant. • Each clearing participant is monitored throughout the business day on a real-time basis.

  17. Multi-Currency Real-Time Risk Monitoring • Participant P/C’s May Also Be Viewed In Detail

  18. Participant Oversight • A clearing participant’s creditworthiness may deteriorate subsequent to their admission to CCorp. In this case, the objectives would be: • To impose financial reporting requirements. • To establish financial responsibility criteria • To establish and impose a progressive set of responses in the event a participant’s creditworthiness declines. • Financial watch level criteria (i.e., declines in adjusted net capital) • Market risk watch level criteria (i.e., risk-based margin requirement as a percent of adjusted net capital)

  19. Firm Capital Manager Detail Review

  20. Summary • CCorp’s best practices have evolved over 80 years to keep up with changing market conditions, business practices, new products, and technology. • CCorp principally minimizes risk by convert market risk to a series of operational best practices that monitors and reduces exposures. • CCorp is highly technological and utilizes proprietary software to reduce the time and risks inherent in acting as a central counterparty.

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