DTCC makes case for implementing central clearing across US Treasury transactions

Outline of benefits and possibilities follows up on claims earlier this year that central clearing of US Treasury transactions can reduce risk and improve resiliency.

The Depository Trust & Clearing Corporation (DTCC) has issued a paper on rolling out central clearing across US Treasury transactions. 

Through its Fixed Income Clearing Corporation (FICC), the DTCC says its long-standing open-access approach provides the flexibility necessary to allow a wide variety of market participants to access central clearing, while also ensuring impartiality and fairness.  

The post-trade market infrastructure claims there is broad industry consensus around the benefits of increased central clearing of US Treasury transactions, including reduction of settlement risk, counterparty risk and the risk of market disorder and fire sales. 

It also claims the move would limit the ability of sudden market movements to cause a default by collecting margin twice daily, enhance market access and increasing market liquidity, and enhancing the ability of smaller banks and independent dealers to compete through direct CCP membership. 

The move is in response to growing concerns around the increased adoption of bilateral clearing for Treasury activity, which has meant interdealer brokers (IDBs) are executing transactions between FICC members and non-FICC members, in which one side of the trade is centrally cleared and the other is bilaterally cleared. The DTCC has previously noted that this fragmentation is creating contagion risk, in part because if a non-FICC member defaults, there could be larger systemic impacts. 

The new paper suggests, however, that it is important to consider the significant differences between markets when developing market regulation. For example, several market participants who do not engage in the swaps market are critical liquidity providers to the US Treasury market.  

The systemic risk mitigation objectives of a clearing mandate will not be achieved if those market participants cannot effectively access clearing.  

DTCC’s FICC currently offers a variety of client clearing models for US Treasury cash and repo transactions, including correspondent clearing, prime broker clearing and sponsored clearing which it said would allow market participants to select the model that best addresses their needs. 

The infrastructure provider said it will engage with stakeholders and regulators to try and advance this initiative.

“The benefits of such a move are significant, including a reduction in settlement and counterparty risk, lowering the risk of market disorder and fire sales and enhancing market access and liquidity,” said Murray Pozmanter, head of clearing agency services and global business operations at DTCC. 

“However, in order for such an effort to be implemented effectively and deliver upon risk management objectives, considerations must be given to current market practices and approaches as mandates are developed. We look forward to working with regulators and the industry on this important effort.” 

The DTCC is not the only stakeholder pushing for central clearing of US Treasuries, in July this year the FIA Principal Traders Group released a white paper stating the move would deliver a number of benefits to market participants including alleviating specific balance sheet constraints observed during the volatility of March 2020, as well as reducing operational risk, facilitating the entry of new liquidity providers, and increasing overall market transparency. 

The association said in June that while there has been some use of the DTCC’s sponsored clearing model for Treasury repo transactions, it has not been used in practice to clear cash Treasury transactions. As a result, a majority of these transactions are not cleared.