Tuesday, February 10, 2009

Update on CDS Clearinghouse

ICE Trust—which will presumably be the dominant CDS clearinghouse, since it has the backing of the major dealer banks— is struggling with the issue of how to price less liquid bespoke CDS contracts. From Bloomberg:

Intercontinental Exchange Inc.’s planned clearinghouse for the $28 trillion credit-default swap market is stalled over pricing on less frequently traded contracts, Chief Executive Officer Jeff Sprecher said. U.S. regulators and industry representatives are working with Intercontinental to create a system to determine prices for credit-default swaps that differ from the standard five-year contract, Sprecher said today on a conference call with analysts.
It's not entirely clear from the article whether the issue is the pricing of bespoke contracts, or the pricing of less liquid contracts more generally. Bespoke CDS contracts are definitely illiquid, but not all illiquid contracts are bespoke. I would be very surprised if ICE Trust agrees to clear a significant amount of bespoke contracts; I'm under the assumption that ICE Trust is only going to clear standardized contracts. Not all standardized contracts are highly liquid, however—for example, off-the-run single name CDS are usually less liquid. I imagine the dispute is primarily over the pricing of less liquid standardized contracts. Back to Bloomberg:
“There’s an interactive discussion” going on about how to price contracts that don’t trade often, Sprecher said. “That’s why the clearinghouse has not been approved. We’re working with the market on this.” Chief Financial Officer Scott Hill said regulatory approval may come “in the very near term.” ... Pricing contracts that don’t trade often could be accomplished through an auction at the end of the trading day, Sprecher said. Intercontinental’s credit-default swap clearinghouse would have the ability to mark prices during the trading day in case contracts move sharply higher or lower, said Hill, the finance chief. “There’s clearly the ability to do intraday margin calls if spreads blow out,” Hill said in an interview. “We are developing the capacity to understand intraday risks.” The process has been complicated, he said. ... Intercontinental also needs federal approval for the credit- default swap clearinghouse in order to close its purchase of Clearing Corp., Sprecher said. ... Atlanta-based Intercontinental is awaiting regulatory approval from the Federal Reserve and the U.S. Securities and Exchange Commission. “We’re at the tail end of that” regulatory process, he said. “A lot of decisions have been made, especially in January.”
My guess is that they get the clearinghouse up and running just before the June 20th roll.


chrismealy said...

Since the banks have no money they can only sell these, so who's going to be on the other side of the trade? Hedge funds? Private equity? Either way, we're going to need a lot of rich people to roll the dice.

I got an idea -- Payers in the 35% bracket are required to invest another 10% in TARP 2. It'll be like a 401k for plutocrats. The funds have to invest in bailout trash. You could let hedge funds participate as managers. Once this crisis is over we can phase it out, and the plutocrats get their money back. It shouldn't affect aggregate demand or whatever too much, because folks in the 35% bracket generally have a lot of capacity for smoothing consumption. And it is savings, not a tax. Well, maybe it's tax, but let's call it savings for now.

If plutocrats really, really believe in capitalism so much they shouldn't have a problem with it.

How much do you need to raise to buy the trash anyway? A 10% forced savings probably wouldn't do the job.

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