With the growing size of central counterparties, the importance of ensuring their adequate regulation to prevent CCPs themselves becoming a threat to the markets is increasing, too – the same principle also applies to other financial market infrastructures. Even before EMIR came into force, the Committee on Payments and Market Infrastructures (CPMI) and International Organization of Securities Commissions (IOSCO) developed relevant principles to that end.

The Principles for Financial Market Infrastructures form a global standard for the structure and function of central counterparties, trade repositories, central securities depositories, securities settlement systems and payment systems. The Principles cover all manners of risk sources, including credit, liquidity, market and operational risks and set out rules for default management strategies, transparency, access to financial market infrastructures and efficiency. The aim is to make financial market infrastructures more resilient to financial crises. The CPMI and IOSCO monitor the implementation of the Principles in all significant countries that have committed to the G20 reforms for enhanced financial stability.

The CPMI and IOSCO have entrusted this task to the joint Implementation Monitoring Standing Group (IMSG). The IMSG, co-chaired by BaFin and the Reserve Bank of Australia, has now for the first time surveyed ten CCPs on the consistency of outcomes of implementation of the relevant Principles and Key Considerations. The exercise focused on risk management and recovery practices. The assessment was carried out using six categories: governance of risk management, credit risk management, margin practices, liquidity risk management, collateral policy and investments, and default management and recovery planning.

Resilience, recoverability and resolvability

The results of this first Level 3 assessment, which were published on 16 August, are intended to help CCPs themselves, as well as clearing participants, clearing clients and national supervisory authorities to enhance their structures and processes, thus strengthening the financial system as a whole.

The assessment was not designed to be a supervisory exercise. Accordingly, the focus of the report is on the efficiency of implementation of the Principles by the CCPs as a whole rather than on each CCP's individual performance. For the sake of neutrality, the CCPs are not mentioned by name. However, this cannot be construed to mean that the findings made in the report apply to all CCPs.

The exercise is part of the CCP Workplan, a comprehensive programme aimed at strengthening the resilience, recoverability and resolvability of central counterparties. It was agreed on by the Financial Stability Board (FSB), the Basel Committee on Banking Supervision (BCBS), the CPMI and IOSCO in April 2015.

Participants and process

Participation in the exercise, which took place between mid-2015 and mid-2016, was voluntary for the CCPs. Out of the ten CCPs assessed by the IMSG, five have a global reach and five are active only locally. They come from nine countries:

• CME Clearing, a division of Chicago Mercantile Exchange Inc. (CME, USA)
• Eurex Clearing AG (ECAG, Germany)
• ICE Clear Credit LLC. (ICC, USA)
• LCH.Clearnet Limited (United Kingdom)
• LCH.Clearnet SA (France)

• ASX Clear (Futures) Pty Limited (ASX, Australia)
• BM&FBOVESPA S.A. — Securities, Commodities & Futures Exchange (BM&FBOVESPA, Brazil)
• Clearing Corporation of India Ltd. (CCIL, India)
• Japan Securities Clearing Corporation (JSCC, Japan)
• Singapore Exchange Derivatives Clearing (SGX-DC, Singapore)

The first step involved the participants answering qualitative questions in all six categories encompassed by the exercise. They also made available to the IMSG quantitative data, for instance on the scope of prefunded financial resources and the results of stress testing. The effective date was 30 June 2015. Following the IMSG's assessment, the outstanding issues were clarified, also during joint meetings.

Progress and gaps

The recently published report contains the results. As detailed below, the IMSG found that the ten central counterparties had made important and meaningful progress towards implementing the Principles.

Nevertheless, the IMSG encountered several gaps and shortcomings of implementation in the areas of recovery planning, credit risk management and liquidity risk management.

In addition, the IMSG identified a number of principles that have been implemented differently by the CCPs. The likely reasons are divergent interpretations and differences in how services are provided. The IMSG assumes that some of these differences can be eliminated long-term by the ongoing development of the additional guidance, which is part of the Principles. Other deficiencies may be remedied by the affected CCPs themselves now that they have been identified.

Governance of risk management

As regards risk management, the IMSG found, among other things, that all CCPs assessed have in their rulebooks the provisions on how to include the interests of stakeholders in the decision-making process and how to publish key decisions.

However, there are major differences between CCPs regarding the extent of stakeholder engagement and role as well as the question of the degree to which the CCP management board is bound by stakeholder views.

Credit risk management

The report's main finding with regard to credit risk management is that not all CCPs meet the requirements of the relevant Principle in full: A CCP should be able to fully cover its current and potential future open positions to every individual clearing participant by using margin and prefunded financial resources. The IMSG found that the prefunded financial resources of some CCPs are not sufficiently calculated to be able to assess whether or not the margin payments can be made on an ongoing basis. Furthermore, some CCPs do not have clear processes in place to promptly address any breach of target coverage.

In addition, the IMSG recommended that the assumptions for stress testing scenarios be better calibrated.

Margin practices

Some CCPs may not systematically take into account all relevant factors in selecting from among alternative modelling approaches, or examine potential trade-offs between these factors. There is considerable variability in the closeout lookback periods applied by the CCPs (Closeout period: length of time a CCP needs to close out a defaulting clearing member's positions. Lookback period: period for determining volatility).

In addition, the IMSG also found a lack of detailed rulebooks in which the CCPs fully determine the measures against procyclicality and cases in which they should be taken.

Liquidity risk management

The IMSG also remarked that some CCPs fail to include sufficient liquidity-specific scenarios in their stress testing frameworks.

Moreover, according to the IMSG, the choice of currencies to be included in stress testing is made using various methods.

Collateral policy and investments

The IMSG found differences in how CCPs invest cash collateral. There is also a significant degree of variation in the approached taken by individual CCPs to setting haircuts and handling potential procyclical adjustments.

Default management and recovery planning

All of the CCPs evaluated have established policies to manage clearing participant defaults. Arrangements differ, however, in terms of the depth of detail and method.

In its report, the IMSG highlighted the importance of developing a comprehensive and effective recovery plan. As the CPMI and IOSCO published the additional guidance in a report just eight months before the effective date of the exercise (30 June 2015), the IMSG acknowledges that developing and updating recovery plans is a new challenge for most CCPs. The IMSG found gaps and shortcomings in some of them and appreciates that all CCPs plan to continue to enhance their recovery planning.

Outlook

In the first half of 2017, the IMSG will conduct a further Level 3 assessment in order to determine the progress made by CCPs in remedying the gaps and shortcomings and instances of incorrect implementation. In the long term, similar assessments of other financial institution infrastructures are planned.

A Level 2 assessment for Hong Kong and Singapore has recently begun. The report is to be published in 2017.

At 2017, the Level 1 assessment is also to be updated for the fourth time. The third update has recently been published by the CPMI and IOSCO.