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  • TABB Group uses two benchmarks to generate the estimated overall margin that should be posted for global OTCDs: the global margin associated with exchange-traded derivatives (ETDs) and the gross credit exposure (GCE) of global OTCDs, as estimated by the BIS (see Exhibit 18). The ETD benchmark uses data from the CFTC and the Options Clearing Corporation (OCC) and comes in at about 0.6% of notional outstanding (or open interest). With greater than 90% correlation between the GCE and ETD benchmarks, we are confident that the GCE benchmark is sufficient for highlighting and benchmarking approximate levels of margin for all OTCDs. The only caveat here is that OTCDs will not achieve anything near the level of compression found in ETDs without significant shifts to more vanilla trade structures.

Sifma collateral presentation Sifma collateral presentation Presentation Transcript

  • 2013 SIFMA Collateral Conference | May 2013THE IMPACT OF REGULATION ONTHE COLLATERAL MARKETSOVERVIEW
  • 2Quick Comments on Collateral & Collateral MarketsCollateral is the topic of the hour. . . And is not goinganywhere soon.There is a great deal of activity currently going on around thetopics of collateral, collateral management and collateralavailability, including: The initiation of Category 2 Clearing Bloomberg LP v. Commodity Futures Trading Commission, 13-cv-00523, U.S. District Court, District of ColumbiaIt is not over until its over. . .
  • The central clearing carrot and stick3Mandate Regulator Jurisdiction RequirementDodd FrankTitle VII;Rule 731EMIRRule 103BASEL IIICFTCSECESMABASEL Committee onBanking SupervisionUSA (w/globalimplicaitons)Europe (w/globalimplications)Globalo Clearing of swaps through CCP’s (w/ available)o Collateral Requirements for both OTC & Bilateral swapso 5 & 10 IM for cleared & un-cleared swaps; w/daily markto market VM requirementso Similar in nature to Dodd Franko Cover’s OTC clearing, collateral, segregation, CCP’s,interoperability, etc.o Strengthens banking capital requirements forcounterparty credit exposure arising from derivatives,repo’s & securities financial transactionso Incentives movement of OTCD contracts to CCP’sSource: TABB Group View slide
  • Source: LCH.ClearnetHow is margin calculated?Initial Margin – PAIRS Designed to cover worse-caselosses based on historicalscenarios from the past five years(1250 scenarios) Represents the amount required toclose out a full portfolio without loss Based on 5 day holding period formembers and 7-day holding periodfor clients (the period required fortransfer or close-out in the event ofa default) Calculated on a Portfolio basis,using a filtered historical value atrisk (VAR) method Back tested against a 99.7%confidence intervalVariation Margin Represents the current value of theportfolio Net Present Value derived intraday;based on market standardvaluation techniques Currency portfolios revaluedaccording to the LCH.Clearnet yieldcurve Margin charged/paid out in thecurrency of obligation Price Alignment Interest (PAI)applied/charged to Variation MarginBalance Portfolio valuations using OISdiscounting for 6 major currenciesPlease note that the above description is being provided to you for informational purposes only and is intended only as a broad overview ofcertain aspects of SwapClear, a service of LCH.Clearnet Limited. The above does not, and does not purport to, contain a detailed descriptionof any of the topics discussed and has not been prepared for any specific audience. Accordingly, you may not rely upon the abovedescription and should seek your own independent legal advice. View slide
  • Cash78.8%Bonds(Sovereign)11.6%Bonds(Corporate)3.1%Other6.5%Current Collateral Usage By BreakdownHow is the collateral universe expanding?Source: TABB Group
  • 6Acceptable Forms of Collateral for CCP’s.Product CME ICELCHClearnetCash X X XGovernment Securities X X XGovernment Sponsored Enterprise / GovernmentAgency Securities (i.e. FNMA, GNMA, FHLMC) X XCorporate Bonds XEquities XPerformance Bonds / Letter of Credit X XMoney Market Fund Shares XPrecious Metals (Bold Bullion * X X X
  • 7In the end, collateral is about risk, and the tail riskof some of these products can be long lastingSource: TABB Group, DTCC
  • 665 668 1,0631,979 1,576 1,476 1,3401,235 1,3682,1932,5761,944 2,004 2,5722005 2006 2007 2008 2009 2010 2011US$BillionsOTCD Margin RequirementCurrent Req. ($ BB)+ Collateral ($ BB)Current Margin (Single Counted) Additional Margin Requirement3,2561,900 2,0364,5553,5202,5723,4803,912Source: BIS, ISDA ,WFE, TABB GroupTargeting OTCD CollateralRequirementsComparison of the ETDand GCE Margin BenchmarksOur initial ’11 estimate of $1.6 trillion is now ~$2.6 trillionHow big is the collateral shortfall?1,900 2,0363,2564,5553,5203,4803,9121,5452,0143,5084,6993,7762005 2006 2007 2008 2009 2010 2011US$Billions20112010200920082007200620052011201020092008200720062005GCE Margin Benchmark1ETD Margin Benchmark2Note 1: GCE – gross credit exposureNote 2: ETD – exchange traded derivatives
  • Cross-product netting and margin offsets couldreduce collateral requirements from 15% to 65%Source: TABB Group99.5% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0%Dealers (w/ CCP) 244,912 62% 1.50% 3,674 3,655 18 18 18Other DealerExposures52,420 13% 1.50% 786 550 472 393 236 315 393FinancialInsitutions74,850 19% 1.50% 1,123 449 337 225 674 786 898Non-Financial EndUsers25,565 6% 0.00% - - - -Total 397,747 100% 5,583 910 1,119 1,3101,909 1,909 1,909910 1,100 1,2911,000 809 61852% 42% 32%Gross Notional (US $B)Gross Notional(%)Avg. Margin(%)Gross Margin($) Mid OffsetsLowOffsetsAugust 12 Demographic EstimatesEstimated Average Benefit from NettingEstimated MarginPosted ($B)Estimated Impact onInitial Margin($B)HighOffsetsNot yetclearedGross MarginRequiredw/Portfolio MarginingAdditional MarginSavingsPercentage Savings
  • 10Asset ClassInitial Margin Requirement (% ofnotional exposure)Credit: 0-2 year duration 2Credit: 2-5 year duration 5Credit 5+ year duration 10Commodity 15Equity 15Foreign ExchangeCurrency 6Interest Rate: 0-2 year duration 1Interest Rate: 2-5 year duration 2Interest Rate: 5+ year duration 4Other 15Source: BCBS/IOSCOWhat will be the margin requirements foruncleared trades?
  • Cleared (Multi-Asset)Swaps*Overnight Index Swap (OIS)*Basis Swaps*Forward Rate Agreements(FRAs)** certain currencies / tenorsCredit Default Indices**** certain baskets of CDSEnergy Related SwapsEst. Notional Value (2011):$261 trillion (40%)Potentially Clearable(Rates Only)***Swaps:Zero Coupon SwapQuanto SwapVanilla Inflation SwapX-Currency SwapSwaptions:European / American SwaptionForward SwaptionStraddleStrangleSpreadCaps/Floors:Vanilla Cap / FloorStraddle, Collar, Strangle, Spread*** certain currencies / tenorsEst. Notional Value (2011):$254 trillion (39%)Clearly Unclearable(Rates Only)Swaps:AmortizingRollercoastersExotic SwapsBMA, UF, UDI, IMM, LPICaps / FloorsQuantosDigital / Digital RangeKnock-in / Knock-outConstant Maturity Swaps (CMS)Structured ProductsCancelable / CallableRange AccrualInverse FloatersSnowballs / Reverse SnowballsEst. Notional Value (2011):$133 trillion (21%)What will be the impact of clearing andcollateral costs on product selection/extinction?Source: TABB Group
  • Do you already hold enough collateral to post?Yes63%No37%Acquire38%Transform62%What will you do to meetcollateral requirements?Source: TABB Group, State StreetBased on interviewswith 34 Buy-side Firmscirca June 2012Collateral Attitudes – Continued. . .
  • What is the difference between collateraltransformation and optimization? But . . .13Source: TABB Group
  • HighLow14Clearinghouse differentiators ranked highest to lowestSource: TABB GroupBased oninterviews with 50Firms circa May2012FCMs and Banks Buy-sideCollateral Attitudes
  • If swaps become more expensive to trade, what other products will you use instead?17%8%8%33%58%TBAs/Repo/ETFs/Bond OptionsNew ProductsNo ChangeCashFuturesBased on interviewswith 31 Buy-side Firmscirca March 2012The future of swaps15Source: TABB Group
  • Will the market move to futures?16Issue Advantage Goes to… Because…Current Liquidity SwapsVanilla US IR Swaps have an annual notional turnover of $175 Trillion;swap futures have nearly zero turnoverFuture Liquidity Swap Futures- Even if the swaps market remains vibrant, swap futures have thepotential to reach a much broader swath of the market- Swaps liquidity will likely fragment across multiple SEFs- Recent trends favor highly liquid, standardized instrumentsCustomization SwapsEven cleared swaps will allow for greater customization than swapfutures. There is limited customization available on Eris contractsMargin Efficiency Swap FuturesThe minimum VaR calculation for futures contracts is 1 day, compared to5 days for cleared swapsRegulatory Status Swap FuturesTrading swap futures is a known regulatory and reporting framework thatwill not require additional registrationStatus Quo SwapsIf regulations prove less onerous than expected, then the swaps marketwill likely continue largely as it is todaySource: CME, LCH, TABB Group
  • Conclusions / TakeawaysThings are never as bad, or as good, as you think they willbe – the cost of collateral will be high but no where near topline estimatesBoth DCOs and FCMs/clearing brokers are working on arange of solutions to help investors find the least expensivecollateral to trade swapsBut there are unforseen consequences from OTC regulatoryreform Bilateral margin requirements are an unknown Independent amounts and potential collateral disputes Variation margin under LSOC The futurization trend could hurt swaps liquidity17
  • Q & A18When the clearing mandate goes live in March, Derivatives Clearing Organizations (DCOs), Futures CommissionMerchants (FCMs) and clearing brokers must be able to accept trades for clearing within just one minute ofsubmission. The goal is to create a market in which clicking “execute” completes the trade entirely. A moreautomated and real-time clearing workflow will allow the market to more accurately manage risk and, by doingso, better deploy capital. But the path to this environment will require a technology investment by swapsdealers, FCMs and the clearinghouses themselvesReal Time Clearing: The New Race to ZeroAuthor: Will RhodeRelevant Recent Research from TABB Fixed IncomeDeath of a SEF – The Coroner’s ReportAuthor: Adam SussmanSwap Execution Facilities (SEFs) have a problem: They have the same amount of regulatory burdens asexchanges but control a narrower slice of the derivatives market, and they largely will depend on the survival ofthe status quo. There are multiple scenarios in which the SEF is made obsolete. In contrast, DesignatedContract Markets (DCMs) benefit if the markets move to an exchange-like model and, at the same time, a DCMcan allow many of the existing swaps processes to survive under a futures model. This is the confidence trick ofDodd-Frank..This report builds on TABB’s initial Global Risk Transfer Market report, published in November 2010, exploringthe ongoing battle between the status quo and the transformation of the global derivatives market as well aswhere various components of the market ecosystem are in their development and implementation cycles. Thereport focuses on the primary issues in swaps today -- including clearing, margin, collateral, automated tradingsolutions, trading costs, trade reporting and repositories, and extraterritoriality -- with an eye toward juxtaposingthem with exchange-traded derivatives markets.The New Global Risk Transfer Model – Transformation and the Status QuoAuthor: Paul RowadyUS Buy-Side Swaps Trading 2012: I Can See Clearing NowAuthor: Will RhodeThis study is based on conversations with 31 buy-side firms, including asset managers, hedge funds, regionalbanks and insurance companies. It looks at clearing behavior, dealer relationships, fees, accessing SwapExecution Facilities (SEFs), central counterparty clearinghouse selection, alternative products, basis risk, andchanges in market structure resulting from regulation