Journal of Financial Market Infrastructures Volume 10, Number 1 (September 2021)

Welcome to the first issue of volume 10 of the Journal of Financial Market Infrastructures. This issue contains three articles on central counterparties (CCPs).

In the first article of the issue, “Central counterparty capital and nondefault loss”, Dennis A. McLaughlin analyzes the adequacy of CCPs’ regulatory capital held for non-default losses. Losses without default under the CCP such as investment losses, custodial failures or operational losses – are rarely studied, and this article is a welcome addition to the academic literature on CCPs. It uses an operational value-at-risk approximation and estimates the necessary parameters using two sources: information from historical extreme losses that have occurred in banks and a reverse-engineered approach to regulatory capital requirements to CCPs. The main result is that for large CCPs in general, a loss without default in excess of the regulatory capital held is very rare, and if it did occur, the expected shortfall would be in the order of up to one year of profits.

In the second article of the issue, “Procyclicality of CCP Margin Models: Systemic Issues Require Systemic Approaches”, Pedro Gurrola Perez discusses a crucial aspect of CCPs in a context of financial stability: the need for a procyclical anti-risk policy to CCP, but also more broadly for the entire global financial system. It is well known from the literature that anti-procyclicality for CCPs is a balancing act: the margin must react to shocks in the financial system to cover CCP, and therefore all clearing members, at all times, but it must also be calibrated such that margin movements are small enough not to exacerbate collateral and liquidity pressures for clearing members and their clients. The author provides a rich and in-depth study of anti-procyclical strategies and applies his findings to a recent case – the March 2020 Covid events – to assess their performance. Moreover, it highlights the need to consider anti-procyclicality at a systemic level.

In our third and final article, “The Externality of Customer Settlement Risk to the WE securities central counterparties”, we see Sam Schulhofer-Wohl place himself from the point of view of the client (here the buyer or the seller of securities via the clearing member). Given the two days between securities trading and settlement (TC 2), the (pre) settlement risk created by client behavior leads to an externality for clearing members, as the former does not always pay the full cost of the management of this risk by the second. A typical example is the January 2021 GameStop event. The author examines the sources of the externality and discusses the potential benefits and costs of separating client from member workstations. He also concludes that shortening the settlement period at TC 1 would somewhat mitigate settlement risk but would not eliminate the externality.

I hope you enjoy reading this issue of the Journal of Financial Market Infrastructures.

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