Central counterparties wary of covered bonds despite ESMA proposal


LCH.Clearnet and Eurex will not accept clearing members' own-name covered bonds as collateral despite a proposal to allow it from the European Securities and Markets Authority (ESMA).


Michael Davie, chief executive of LCH.Clearnet’s SwapClear service, says that while the confidence interval is an emotive headline number, it’s only one of the factors involved when calculating value at risk and initial margin and its impact shouldn’t be overstated.

“One of my worries would be that we get lost in essentially a statistical debate,” he says. “The industry needs to be very clear on what the tail risk could be, and whether it is measured and quantified correctly. From our perspective there are critical philosophies that a CCP must establish before it gets into a statistical debate.”

Despite that, the ESMA paper is full of numbers. For example, the historical look-back period for calculating initial margin is proposed as an equal weighting of both the previous six months’ market conditions and the six months reflecting the most stressed historical market conditions of the past 30 years.

When Risk spoke to CCPs following the February publication of the initial ESMA discussion paper, executives were concerned about the level of prescription being considered.

“We are raising our eyebrows at this. In all our discussions with the European Commission and ESMA, we have impressed on them the need to maintain a degree of flexibility,” a London-based source at one clearing house said. “You can’t define ex-ante what a particular parameter, period or percentage should be at all – and certainly not in isolation – because one has to look at the overall risk framework, and how the different factors play together. Being too rigid could end up being dangerous, if you end up with something that can’t cater to market events.”

The consultation paper is open for comments until August 5.


This article was first published on Risk