Once all clearable interest rate swaps (IRSs) are eligible for portfolio margining in the United States, the industry could see margin savings of US$618 billion, according to a new report.
As part of G-20-endorsed reforms to bring more OTC derivatives on-exchange and cleared centrally, as enshrined in the Dodd-Frank Act, the Commodity Futures Trading Commission (CFTC), which has oversight for index-based swaps, still needs to make a final determination on which instruments will be eligible for central clearing. But according to Adam Sussman, partner at research consultancy TABB Group, the mandatory clearing of a significant portion of IRSs is imminent and will cost the industry.
“As of August 2012, the notional value of outstanding OTC interest rate swaps was US$514 trillion,” said Sussman. “If cleared, these products would require US$7.1 trillion in gross initial margin. But margin offsets could dramatically reduce these costs.”
Clearing houses have offered portfolio margining for years in other centrally-cleared asset classes. The practice lets firms reduce their margin burden by offsetting risks in their portfolios. Sussman said when portfolio margining becomes available to all market participants, the industry-wide margin requirements for interest rate swaps will be cut by at least 32%.
“And if more linkages are created among central counterparties (CCPs), the savings could reach as high as US$1 trillion,” said Sussman, in the report entitled, ‘Portfolio Margining for Rates: Saving on Clearing’.
Portfolio margining will primarily benefit market participants with the largest offsetting risks, such as dealers which act as market makers and middlemen between end users, asset managers, insurance companies and hedge funds. But the big banks will benefit as well, said Sussman.