feed

Article: The Indirect Costs of Central Clearing

02 June 2014 | Mas Nakachi
   

The Real Cost of Central Clearing

The all-in cost of participating in the OTC derivatives market is about to go up sharply – either through central clearing, or as a result of the new BIS (Bank for International Settlements) margin requirements for non-cleared derivatives, effective from December 2015. The choices clients in particular are making now are not easy and caveat emptor should be front of mind, especially when choosing a clearing member.

The cost of clearing is also going up due to macro business reasons. Over the past few years, Futures Commission Merchants (FCMs) have under-priced client clearing with a “land grab” objective, at unsustainably low prices. As a result, the economics of client clearing are quickly becoming untenable for many - hence BNY and RBS dropping out of the business recently (and inevitably there will be more). Part of the argument will come down to your belief in whether you can win profits in the execution space - or whether you need to provide the clearing service to encourage customer loyalty with reduced execution fees.

Reduced competition will enable survivors to consolidate market share and push up prices to levels that can actually support their business. The end result will of course be higher prices paid by clients for client clearing. Our research shows that not only are there a wide range of prices being charged by banks for their clearing services, but the basis on which they are calculated are inconsistent, making it tricky for an apples-to-apples comparison [see table below].

So, what are the other lessons that can be learned as we step deeper into this new and not always so transparent world of clearing?

  1. Expect to see Clearing Brokers continue to fine-tune their fees as they seek to claw back the true costs of clearing from their clients.
  2. Complexity is increasing along with the need for tools to manage it.
  3. Central Counterparties (CCPs) need to provide members and clients with explicit detail on their OTC margin models. If they don’t do this voluntarily, regulators will probably make them do so anyway.
  4. Whilst the details of CCP margin models are available to members, the details of the default fund calculations can be more opaque. Expect further investigation by regulators into how IM (Initial Margin), DF (Default Fund) and the default waterfall are calculated and interact, such as VM (Variation Margin) haircutting and utilisation of non-defaulters’ IM asset pools.
  5. Eligible assets to cover IM will expand, given the wide range at some CCPs compared to others. What a CCP regards as a stable asset needs to accommodate the squeeze on high-quality liquid assets going forwards.
  6. Another growing need is liquidity management, for which the starting point is the ability to predict and analyse the increased number of daily margin calls.
  7. The systemic effects of a VaR model used so prolifically in a stressed market has to yet to be seen in practise, but is something the whole market must be wary of.

Sample fees charged by Clearing Brokers

Access to clearing via direct members attracts charges from Clearing Brokers (outside the US) and FCMs (within the US). Under EMIR Clearing Brokers must disclose those fees publicly, a sample of which we've shown here. All the Clearing Brokers explain at length that the cost of building and operating their infrastructure is expensive, along with capital and funding costs, below are the sources for this data which explain in more detail why these charges are levied.

Bank

Annual Fee (per account)

Add-Ons

Citibank

$60,000 or

$120,000 for low volume usage

ETD: $6 per lot

OTC: $750 per trade

OTC: +50 bps on IM maximum

Morgan Stanley

ETD: €200,000 for 100k lots

OTC: $500,000 for 1,000 trades

ETD: €2 per lot

OTC: $500 per trade

JP Morgan

$60,000 + $10,000 once,

Minimum of $240,000

$1.50 per trade, €100 per cash movement, €250 per security movement.

OTC: + 60bps on IM

Barclays

£60,000

Minimum £150,000 revenue

ETD: £5 per lot

OTC: £750 per trade

OTC: + 50bps on IM for an ISA

UBS

Up to $60,000

Minimum $250,000 per OTC or ETD relationship

+20bps on IM, variable

Goldman Sachs

Minimum of $6,000 for first currency, $2,400 for additional currencies

ISA: Maximum +75bps on IM

OSA: Maximum +50bps on IM

Deutsche Bank

€60,000 per ISA

Minimum €250,000 revenue

ETD: €5 per lot

OTC: €500 per trade

+75bps on IM

ISA = Individual Segregated Account. OSA = Omnibus Segregated Account

Fees from Clearing Houses under EMIR

Under EMIR the CCPs must also publicly disclose the fees they charge for their various account models. Here are some examples, excluding the usual membership fees, only those relevant to the new EMIR accounts:

CCP

Annual Fee

Nasdaq OMX

£500 once only

LCH.Clearnet

Varies but £3000 (Individual)

£1000 (Omnibus)

CC&G

€2,400 (Individual)

€4,200 (Omnibus) after the first

CME Europe

£0

ICE Europe

£0

Eurex

Fee  waiver until January 2016, if on-boarded by May 2014

EuroCCP

€6000

The models adopted by each CCP vary widely, given that they each have different strengths in product sets, and focus on different national or vertical markets. Shopping around isn’t so easy, as price is just one component of your choice of CCP. In relation to amounts charged by the Clearing Brokers, the CCP charges are minor.

The competition for business is evident from the varied fee structures above. As the European Mandate draws closer, we may see adjustments to their models as Clients arbitrage the various models to get the best deals.

In the next article in this series, we’ll be looking into making the most of clearing and the different costs that need to be taken into account to optimize the capital allocation decision across clearing venues, clearing brokers, and listed versus OTC products.

Data Sources

We have checked carefully to assemble the summary tables above, taking information from the many web pages and PDFs below. If you spot any errors or omissions please let us know via this site and will gladly make amendments accordingly.

Clearing Brokers

CCPs


Comments

Thanks, very useful article. For reference, the BoA/ML fee disclosure is here:

http://corp.bankofamerica.com/documents/16303/74434/MLI_EMIR_Fees_Disclo...

BaML emphasize that these regulatory disclosures are "maximum" prices, which are subject to negotiation. Is that the case with all clearing brokers?

You have to read the details of each disclosure - some have minima, others have variable amounts in many ways. I haven't seen a cap on any of them, as most of the components are driven by trade volumes and initial margin amounts, which drive capital.