Principles of Clearing and Margin Flashcards
what is clearing?
process by which derivatives trades are confirmed and registered
what must clearing members maintain and what does this minimise?
must maintain an account in the clearing house’s currency, minimises
what does the clearing house face in the case of default?
one day market risk, which will be negated due to daily margin payments all members must pay
what is the major advantage of having a clearing house?
greatly reduces counterparty risk and guarantees the financial performance of the contract
what impact did Brexit have on UK-based CCPs and clearing firms?
introduced some operational and regulatory risk, these firms lost their passporting rights
what is a mutual offset system?
agreement between two exchanges that allows trades executed on one exchange to be booked and cleared through another
what is a principal-to-principal system?
where the clearing house guarantees the performance of the trades executed by its members on the exchanges that it serves
what is the reason for an increase in trade reporting procedure for OTC derivatives?
reduces counterparty credit risk and better
what are the two types of clearing members?
general and individual?
what are the requirements for ICE Clear Europe guarantee?
- hold an account with an approved bank
- initial margins collected in cash, will be used in the case of a default
- member default fund access is allowed via deposits being made
what is the default waterfall?
when a clearing member defaults on their obligations and the below sources are used to cover losses:
- default members margin
- default fund contributions
- insurance policy
what is a prime broker responsible for in relation to derivatives?
- efficient and best execution
- confirmation of client trades
- settlement
- providing custody and safekeeping
- keeping clients aware of issuer correspondence
what are additional value-added services prime brokers may provide?
- capital introduction (prime broker introduces it’s hedge fund to qualified hedge fund investors)
- office space leasing and servicing
- risk management and advisory services
- consulting services
what regulation governs prime brokers and hedge funds with their potential clients?
FCA, MiFID II
who provides OTC clearing as part of the LSEGroup?
LCH Group
what clearing does the CME Group’s Clearing360 provide?
More restricted service for OTC interest rate derivative contracts and FX option block trades
what firms is Clearing360 limited to?
firms that act as a principal or agent for the OTC trades e.g., hedge funds, major banks, prime brokers and prop. trading firms
what is a clearing fund?
pool of assets contributed to by clearing members in a CCP to meet the obligations of defaulting CCP participant- every clearing member required to contribute
what are the acceptable types of collateral by clearing funds?
- cash in liquid and stable currencies
- high quality gov’t bonds
what is a price limit?
circuit breakers imposed by the exchange that limits maximum bounds on price movements on the contract on any day
what are the down-price limits the CME Group has?
starting at 5% down to 20% down
what is a position limit?
when the maximum amount of positions someone can undertake in an asset or market is limited so as not to affect the entire market and create a monopoly
what are the steps clearing house can take to protect itself ?
- quality of membership
- financial resource requirements on members
- margining system
- have its own financial resources and perhaps a default fund
what is SPAN?
Standard Portfolio Analysis of Risk
system used to calculate daily margin requirements, uses a set of algorithms to measure and determine a portfolio’s daily risk and margin requirement based on the entire portfolio
what is an initial margin?
good faith deposit, lodged with the clearing house- calculated by looking at the member’s position
when is initial margin recomputed?
every business day, and is called first thing in the morning before markets open
what forms can initial margin be provided in?
cash or acceptable non-cash collateral
what happens to margin as contracts near maturity?
clearing house may wish to minimise speculative and delivery pressures by increasing initial margin to make sure underlying is in place for delivery or there is enough capital for settlement
what is TIMS?
theoretical intermarket margining system
what do SPAN, TIMS and STANS do?
examine the risk of F&O positions in the same portfolio and work out the worst scenario from a set of standard scenarios to reflect clearing house risk
what does SPAN look at?
the impact on a position of F&Os contracts if the price, time to maturity and volatility of the underlying asset changes by set amounts
how many scenarios are considered with SPAN?
16
what additional charges does SPAN add?
- charge for inter-month spreads
- charge for additional risk of spot delivery
what needs to be considered when looking at the margin for futures contracts?
only price movements, so initial margin will stay the same unless the scanning range changes
what is the scanning range?
point price movement up or down as well as a change in the volatility of the underlying
what needs to be considered when looking at the margin for options?
changes in volatility is the most important element, margin likely to change daily
what is TIMS?
Theoretical Intermarket Margining system.
uses portfolio-based margining methodology, well-suited for measuring the risk of mixed portfolios
what does TIMS look at?
identifies the risks of options on specific underlying’s, provides for offsets between positions in different but highly correlated underlying assets
what does the premium margin represent?
market value of a particular position at the close of trading, represents daily change or price movement
what is STANS?
system for theoretical analysis and numerical simulations
propriety risk margining system based on more modern approach to measuring risk. requires more statistical methods and greater computing power
what does STANS seek to address?
certain shortfalls of TIMS; correlations in price movements and the modelling of extreme events
what are inter-commodity spreads?
spreads between different instruments that always exhibit correlation in their price movements e.g., Gas Oil and Crude oil
how does the closing price come about?
By exchanges providing outlines for the calculation of MTM variation margin and positions at the end of the day
what is the closing range?
measure of the range or spread of prices that are quoted during a specified time just before trading ends
how is variation margin calculated?
= ticks moved on the day x tick value x number of contracts of the open position
where: ticks moved on the day = today’s closing price – yesterday’s closing price
what is variation margin?
where there is an arrangement between a member of a clearing house and their client, they will expect the client to deposit more than the initial margin to provide a safety cushion and reduce correspondence
what is collateral?
assets that are used as a guarantee or as security for a line of credit or loan
what are the acceptable forms of collateral?
- cash
- bank guarantees
- certificates of deposit
- government debt
what is collateral management?
process that allows market participants to reduce the counterparty credit exposure from longer maturity OTC contracts
what is a CSA?
credit support annex
legal document that regulates and defines the criteria for collateral payments for OTC derivatives transactions
what other key procedural details foes the CSA also include?
- threshold amounts for credit exposure
- minimum transfer amounts
- haircut applied to collateral (to protect receiver from a fall in value)
what are uncleared market rules?
global policy framework released by BCBS containing detailed guidance on new margining requirements for uncleared OTC derivatives
what is AANA?
aggregated average notional amount
sum total gross notional value of all outstanding uncleared derivatives, calculated March-May every year, US firms take average AANA everyday during this period, EU/UK firms use an average every business day
what is the most used threshold for AANA?
8 billion
