Non-Dealer Swap Clearing Explodes Amid Volatility, Regulation

Recent market volatility and pending regulatory changes have prompted a sharp increase in the volume of credit default swaps and interest rate swaps being cleared by CME Group's (CME) over-the-counter derivatives processing service, the Chicago exchange operator said Monday.

The surge in clearing for CDS, which function like insurance for bonds and loans, and rate swaps comes more than a year after the enactment of the Dodd-Frank financial market overhaul law and as growing fears about contagion in the euro zone pressure stock and bond prices.

"Some customers are increasing their activity as they are getting more ready for the regulatory mandate and other customers are more driven by market uncertainty," said Laurent Paulhac, CME's managing director of over-the-counter (OTC) products and services, in an interview.

Swaps between dealer banks are already cleared on a routine basis, allowing clearinghouses like CME Clearing to stand between the parties and guarantee payments in the event of a default. But until recent weeks, non-dealer customers like investment managers and hedge funds had not been clearing swaps, despite a mandate in Dodd-Frank that will force some of them to do so for standardized, clearing-eligible swaps by the end of next year.

Some complained the new clearing regime was too complicated from an operational standpoint and they needed more time to understand the process; others wanted to wait for regulators to specify which swaps would be subject to the new regulations.

Now, more than a year after the enactment of Dodd-Frank, necessity and fear seems to have made these issues surmountable.

As of Sept. 30, CME has cleared more than $45 billion in OTC rate swaps and CDS. The company also cleared $6.5 billion in customer volume in CDS in September, surpassing the previous record monthly total of $287 million in August.

CME's open interest in CDS is now $5.9 billion, up from $64 million when the service launched on Dec. 15, 2009 and up from $78.5 million on Aug. 23. In early September, the open interest in CDS jumped from $467.6 million to nearly $4 billion in just seven trading sessions, CME data show, and on Sept. 14, a record $1.7 billion in CDS was cleared in a single day.

As of Sept. 30, open interest in rate swaps at CME stood at $34.2 billion.

The open interest represents the amount of risk cleared and remaining in CME's clearinghouse.

This speedy adoption by customers also has given CME a reason to roll out additional capabilities in CDS clearing. It so far caters to index CDS referencing series 9 to 17 of the CDX North American Investment Grade index administered by Markit. Next, CME wants to add clearing for the CDX North America High Yield index, pending regulatory approval, beginning with series 11 to 17.

Paulhac declined to discuss which customers are behind the clearing push, but said across interest rate and credit derivatives, CME counts about 15 institutions or "buysiders" as customers.

When CME formed its CDS clearing business in 2009 it announced the following buyside institutions as co-founders: AllianceBernstein, BlackRock, BlueMountain Capital Management, Citadel, D.E. Shaw Group and Pacific Investment Management Company, or PIMCO. Any direct relationship between the clearing activity seen at CME and these firms could not immediately be determined.

ICE Clear Credit, the U.S. CDS clearing house of Atlanta exchange operator IntercontinentalExchange, has cleared "buyside" or customer trades since December 2009, and has also seen an increase in CDS clearing in recent days.

-By Katy Burne, Dow Jones Newswires; 212-416-3084; katy.burne@dowjones.com

CME (NASDAQ:CME)
Historical Stock Chart
From May 2024 to Jun 2024