It seems that every week there’s an announcement of a new clearing entity supporting a market or product. Clearing is critical and provides safety and risk mitigation for market participants. But I wonder if there can be too much of a good thing?
Granted, clearing is a basic requirement of a sound financial services industry, and should address trade matching, collection of initial and variation margin and the clearing entity acting as the Central CounterParty. But is forming a new clearing entity the most effective approach?
In a market without a clearing entity, one is needed to provide critical services. This often requires regulatory changes, perhaps on a national scale, to begin the process. The local infrastructure must be in a position to support this process. This includes funding and contributing the expertise to define the processing and control functions. This is a heavy burden for an emerging or pre-emerging market to undertake.
Perhaps leveraging the expertise of an existing clearing organization, rather than creating a new entity, is a better alternative. This would permit clearing services to be made available faster and potentially with less pain and expense usually associated with forming a new entity. The potential benefits of this approach are considerable as it would reduce the costs associated with development and encourage the use of clearing in new markets.
Further along this line, I question why new clearing entities are being formed in markets where there is an existing entity already providing clearing services. Are clearing services for one product substantially different from another product? Are there benefits of using an existing platform?
If there are legislative or regulatory issues that demand a new entity, the industry should appeal this situation as it results in a fragmented clearing process. Additionally it requires firms to join multiple entities, support redundant interfaces and holding positions and balances across multiple entities all which results in increased costs.
Perhaps some products can’t be co-mingled or require unique processing streams and / or reporting. Or segmentation may be required to mitigate associated risks. This can be addressed via a holding company structure where different processing streams within a clearing entity would maintain the required segmentation.
The old approach of “cloning” an existing infrastructure, to support a new requirement, has been the “go to” approach for financial services firms for far too long. As seen many times, this seemingly simple approach is costly in the long run with multiple interfaces, maintenance of different but similar applications and processing multiple processing streams.
Once in-place these cloned systems are almost impossible to replace or eliminate due to the ever evolving demands for new products, faster processing or new markets.
Fewer clearing entities will flatten the landscape and reduce fragmented processing streams. It will also support cross-margining and improved collateral management. In the future fewer clearing entities will ease the transition to global interfaces among clearing entities.
So, when will we learn from the hard lessons and modify our approach to the never-
ending demands of the industry?
What is your opinion about this?
Are there other viable approaches available?
How many clearing entities memberships does your firm have?