Are the buy-side prepared for central clearing?

Over seven years in the making, central clearing for over-the-counter (OTC) derivatives is finally coming to Europe. While central clearing is nothing new to banks and swap dealers (which begin mandatory clearing in June), for the majority of buy-side firms which will be swept up under the rules in December 2016 and March 2017, the requirements could be daunting.

After numerous delays to implementing the regulation, there is now an overall sense of both anticipation and acceptance of the complexities that clearing will bring.

Higher costs associated with bilateral trading, such as the collateral requirements for uncleared derivatives and the Basel III capital rules, are incentivising fund managers to use CCPs.

To an extent, there is a greater realisation of the efficiencies clearing certain derivatives products can bring, and now there are calls for additional products, such as interest rate swaptions, to become part of the clearing mandate.

In addition, mandatory clearing could encourage buy-siders to transition their OTC exposure into exchange-traded derivatives as an alternate way of freeing up capacity.

But is it really that simple? Will there be a harmonious adoption of central clearing for OTC derivatives for the buy-side? Are futures products an equal substitute?

To start with, the growing number of clearing banks reducing their clearing capabilities is a huge stumbling block for the buy-side moving to central clearing.

Secondly, the collateral requirements that come with central clearing has not been totally realised amongst the buy-side, with many fund managers still coming to terms with the rules.

Furthermore, the clearing mandate is set to fundamentally affect what types of instruments the buy-side trade. Despite the launch of a number of futurised OTC derivatives such as swaps futures, there is an overall lack of liquidity, and with barriers to effective pricing, the buy-side are not willing to trade them.

Overall, it is a huge task for the buy-side to get their head around.

To help, The Trade is putting on a webinar looking at these very issues, with the aim to help buy-siders fully understand the forthcoming rules and how to prepare for them.