ch 6 Clearing & Managing Flashcards
What is the role of a clearing house?
A clearing house acts as a central counterparty (CCP), reducing credit risk and ensuring trade performance.
What is the function of novation in clearing?
Novation replaces the original trade counterparties with the clearing house, reducing counterparty risk.
When does a clearing house become the counterparty to a trade?
When the trade is registered, ensuring the clearing house guarantees contract performance.
What does a clearing house guarantee?
It guarantees trades of all clearing members and their customers but not individual clients of members.
What is the principle of principal-to-principal clearing?
Clearing houses guarantee trades only for clearing members, not for their clients, maintaining risk segregation.
What are the key components of the default waterfall?
1) Defaulting member’s margin 2) Contributions to default fund 3) Other member’s contributions 4) Clearing house funds.
What is a default fund?
A fund contributed by clearing members based on trade volume and value, used to cover member defaults.
What is SPAN in margining?
SPAN (Standard Portfolio Analysis of Risk) calculates risk for a portfolio and determines initial margin requirements.
What is initial margin?
A deposit required to cover potential losses on contingent liability transactions like futures and short options.
What is variation margin?
Daily margin adjustments based on market movements, ensuring accounts maintain required margin levels.
What is intra-day margin?
An additional margin call issued during volatile market conditions to maintain required risk levels.
What is maintenance margin?
A minimum balance level required in a margin account; brokers issue margin calls when balance falls below.
What is the purpose of collateral in clearing?
Collateral ensures clearing members meet margin requirements and reduces counterparty risk.
What types of collateral are accepted by clearing houses?
Cash (Variation margin)
government bonds, bank guarantees, and certificates of deposit, subject to haircut adjustments. (Initial margin)
What is a haircut in collateral management?
A discount applied to collateral value to account for market fluctuations and liquidation costs.
What is a credit line in margining?
Credit extended by brokers or clearing members to clients, subject to regulatory limits.
What are Uncleared Margin Rules (UMR)?
Rules requiring margin on non-centrally cleared OTC derivatives to reduce credit and default risk.
What is the ISDA Standard Initial Margin Model (SIMM)?
A standardized methodology for calculating initial margin on uncleared OTC derivatives.
What are acceptable forms of variation margin?
Usually cash, ensuring liquid assets are available to cover market fluctuations in positions.
What is the role of a credit support annex (CSA)?
Defines collateral terms in OTC derivatives transactions, including threshold amounts and delivery rules.
What is the minimum transfer amount in collateral management?
A threshold to reduce frequent small collateral transfers, improving operational efficiency.
What is the Basel Committee’s role in margining?
Sets global standards for initial and variation margin requirements on OTC derivatives.
What is the purpose of OTC collateral management?
Ensures collateral is marked to market, reducing credit exposure in uncleared OTC derivatives.
What is the difference between exchange-traded and OTC clearing?
Exchange-traded contracts have central clearing, while OTC contracts may have bilateral or cleared arrangements.
What is an adjustment in a margin bill?
An adjustment in a margin bill accounts for additional charges or credits such as intermonth charges, spot month charges, and inter-commodity credits, which impact the total margin required.
What factors can affect the final margin bill of a clearing member?
The final margin bill is determined by scanning risk, short option minimum charge, intermonth charges, spot month charges, and inter-commodity credits, ensuring adequate collateral coverage.
The final margin bill is influenced by multiple adjustments to ensure the clearing house holds enough collateral to cover potential losses. These factors include:
Scanning Risk – The primary risk measure based on market volatility.
Short Option Minimum Charge – A minimum margin requirement applied when a clearing member has only deep out-of-the-money short options, ensuring sufficient collateral even when the risk appears low.
Intermonth Charges – Extra margin for holding positions in different contract months within the same commodity, as price movements can vary between months.
Spot Month Charges – Additional margin required as contracts approach expiry due to increased volatility and potential delivery obligations.
Inter-Commodity Credits – Margin reductions granted when positions in correlated commodities offset risk, lowering the total margin required.
These factors ensure that clearing members maintain adequate collateral to protect against adverse market movements and systemic risk.
