CENTRAL counterparties (CCPs) need to plan how to distribute losses in the case of any future insolvency, otherwise vital clearing services could face trouble continuing in a crisis, a Bank of England report warned yesterday.
CCPs’ members would also benefit from rules to allocate losses to increase certainty and cut disruption in a crisis.
The counterparties collect initial margin from members to cover losses in case of defaults, and further resources to back it up. After that, members pay a limited further amount, and if losses are bigger still the CCPs equity is used.
If that is exceeded the CCP becomes insolvent.
“In the absence of an appropriate resolution regime, the CCP would have to stop trading and enter liquidation,” said the report.
As more activities are pushed onto CCPs by regulators, that could hit increasing amounts of derivatives trading, it warned, increasing the need for a detailed resolution regime.