Non-EU CCP approval delay could arrive too late

Plans by European regulators to confirm in December a six-month delay to the approval process for non-EU clearing houses is causing concern around the impacts of an eleventh hour decision.

Plans by European regulators to confirm in December a six-month delay to the approval process for non-EU clearing houses is causing concern around the impacts of an eleventh hour decision. 

Non-EU central counterparties (CCPs) must receive European Commission approval by 15 December in line with the Capital Requirements Directive IV (CRD IV)  to prevent banks being faced with a substantial hike in capital costs when clearing through them.

An agreement between US and European regulators is being urged by the market to avoid causing major disruption to the derivatives markets, with a last-minute extension now the most likely outcome.

The commission is now understood to willing to grant a delay, but will not confirm its decision to do so until December, possibly as late as the 15th itself.

The faltering discussions and concerns over a decision not being reached until December could cause firms to prepare for a worse case scenario though, making a six-month extension to the approval process somewhat futile.

“There will need to be re-plumbing of the system and that can’t be done with a week’s notice,” said Lee McCormack, clearing business development manager, global markets, Nomura.

“If there is no extension or we don’t see it in good time, institutions will start spending money and taking evasive action, and that is going to take a few months at least.

“The danger of the deadline coming is that some institutions will need to take significant remedial action.”

Evasive action

Dubbed as the ‘doomsday scenario’, the market has been seeking a resolution in the months before the deadline, making some form of communication from the European Commission an immediate necessity.

Market participants had previously told that the situation had to be resolved during September to avoid market disruption, with every day that passes adding concern to clearing firms.

Reports from both the EU Commission and the US Commodity Futures Trading Commission (CFTC) emphasise that both parties are intent on reaching an agreement, yet issues around segregation models and margin requirements continue to plague the process.

“I have asked them to give as much notice as possible to the market and to national competent authorities of any potential extension of the 15 December deadline, so that they can react on an informed basis,” said Simon Puleston Jones, chief executive officer, FIA Europe.

“The preference for the industry would be for this issue to be resolved as quickly as possible, to provide certainty to the market, but we appreciate that these are complex issues.”

Recently appointed CFTC chairman Tim Massad has been particularly keen to strike a deal with European regulators. 

“They are a new Commission, with new Commissioners, and are looking to approach the dialogue constructively to achieve a good outcome for all,” added Puleston Jones. 

One of the major parties affected by the situation has been CME Group, with its clearing house widely used by European market participants. Clearing firms such as Nomura would have to look at ‘re-papering’ clients to go to their US entity as the lack of EU approval would not allow them to clear through CME’s US clearing house.

Market fragmentation

“The markets get very balkanised; US clients can only go to a US clearing house and vice versa, even though they still want access to products outside their borders,” added McCormack.

“The consequences are significant for all parties, especially when factoring in the additional issue of significant capital costs for trades that are in a non-qualified CCP.”

The outgoing European Commission commissioner for internal markets, Michel Barnier, had previously said the two authorities are in ‘near daily’ discussions over the approval of non-European CCPs, while Massad said it had been a priority since the day he joined in June.

Speaking at Sibos 2014 in Boston last week, John Bruno, senior vice president, partner and counsel at asset management firm, Wellington Management Company, said there is a trend where large global asset managers have clients trading just in a single jurisdiction.

“We are finding that clients want to opt out of trading in the US markets if they are in Europe, and vice-versa with US clients not wanting to deal with the complexity of trading in multiple jurisdictions,” added Bruno. 

“It is not a good thing for market liquidity as ultimately you want to ensure markets are liquid and clients have the ability to transact at the lowest price and when they need to. I don’t think this is what the regulators intended.”