New Security and Exchange Commission (SEC) capital rules have banks threatening to stop offering client clearing for credit derivatives. The rules demand that futures commission merchants (FCMs) take a capital charge on a customer’s portfolio, regardless of concerns about margin variation or missed payments. A single missed margin payment, the banks say, could cause the default of the bank’s clearing wing.
“It’s not inconceivable you could have a position with a notional of a few billion dollars. Only a few FCMs could deal with the capital charge on that without becoming insolvent. The SEC hasn’t got this right – if someone is a day late on a margin call, then you risk putting FCMs into default. The SEC needs to look at this because no-one will offer this service otherwise,” said one international head of clearing.
Dodd-Frank mandates that the SEC regulate credit default swaps (CDSs), and some foreign banks are disappointed with how the agencies new rules are playing out. Market players will increasingly look to the SEC for clarification on margin rules. For example, for margin calls that aren’t met within a day’s time, the clearing party takes the capital charge, but is this charge offset by the required collateral posted by the client?
Confusion has set because of the absence of a robust rule set. Nervousness has understandably prevailed because banks want to avoid a circumstance where FCM capital requirements spike in an under-capitalized milieu.
Last month the SEC did attempt to clear up confusion with rules posted on October 17. The rules it proposed include a $100,000 threshold for margin calls, which would have to exceed this amount for broker-dealer to incur a charge.
Guidance notes on the issue are being released, but clarification remains an issue with regard to capital charges. Stay tuned for more updates from CFTC Law.