Euro swaps clearing: hope for the best, prepare for the worst

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By Joel Clark.

As the UK’s exit from the European Union edges closer, concern over the vexed question of clearing of euro-denominated swaps has intensified, but clearing house officials and market participants speaking at the Fixed Income Leaders’ Summit in Amsterdam expressed hopes that a regulatory solution can still be found.

Swaps clearing has long been a bone of contention ahead of Brexit, as a large majority of the business is currently cleared through LCH in London. If the issue is not properly addressed as part of Brexit negotiations, European regulators and market participants could well choose to shift clearing to central counterparties (CCPs) on the mainland, to avoid this activity taking place outside the European framework.

Philip Whitehurst, LCH

“Brexit is a short-term bump in the road, but far more important are the long-term arrangements for EU customers and their access to CCPs,” said Philip Whitehurst, executive director for product management at LCH. “If I am an EU firm, there is a risk that as a result of inaction, I might have constrained choices relative to the freedom I have now.”

Whitehurst urged European market participants to continue lobbying supervisors and policymakers to make sure they are aware of the risks that may result if no solution is found, while other panellists drew parallels with the uncertainty that abounded over equivalence when clearing mandates were introduced under the US Dodd-Frank Act and the European Market Infrastructure Regulation (EMIR).

Just as European equivalence was only granted to US CCP operator CME Group relatively late in the process, meaning market participants active on CME had to be prepared to move their business but were ultimately able to continue clearing there, so too it is hoped a similar agreement will prevail ahead of Brexit.

Mark Croxon,Thames Bench

“There wasn’t a recognition by Europe of CME as a fit and proper CCP for people to discharge their obligation to clear and that went right to the eleventh hour before we had the recognition of CFTC regulated CCPs, which allowed market continuity. I think the direction of travel is towards something that is similar to that event under EMIR, but there is a lot of politics at play here, which may or may not affect the outcome,” said Mark Croxon, managing director at Thames Bench, a regulatory and market structure consultancy.

Matthias Graulich, Eurex Clearing

Frankfurt-based Eurex has already made a proactive effort to attract more OTC clearing, with the goal of bringing greater choice and risk diversification ahead of Brexit. This has so far yielded the group a market share of 10% in OTC euro swaps, according to Matthias Graulich, member of the executive board at Eurex Clearing, but he still recognised the importance of securing a deal.

“There is no doubt London will be a major marketplace for financial markets in the future – all the other locations throughout Europe do not have the capacity to substitute London in this role,” said Graulich. “Is it desirable from a market perspective that a relocation regulation is enforced? Not at all. I think this [would be] disruptive, similar to a hard Brexit with no recognition at the end of March, which I hope will not happen.”

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