When MiFID first emerged into the mainstream, many of us focussed on developing smart routing systems that could navigate the new fragmented liquidity landscape. Over time, these smart routers have become increasingly sophisticated and now take into account both lit and dark venues and assess them against a dazzling array of metrics. Left behind in the gold rush was the seemingly dull world of clearing, where the contribution by Europe’s clearing houses was pretty much limited to waving an “interoperability at some point in the future” banner.
Well this looks like it may well be set to change.
BATS Europe has recently announced that it will allow its market participants to choose which clearer they use (which shows that interoperability has now become a reality). By offering choice, BATS is disrupting the vertical silo model whereby exchanges own (and extract fees from) every step in the trading process. It will also allow participants to take advantage of different clearing deals they can negotiate by tagging particular orders to go down one clearing route or another. On top of this, the regulatory pressure to see more products (such as OTC derivatives) cleared centrally has ignited interest in the space, and is why LCH Clearnet is reportedly mulling over a number of offers from exchanges and others keen to further their ambitions in this direction.
So, suddenly the world of clearing looks more exciting as the promise (threat) of real competition looks like becoming a reality. The European Association of CCP Clearing Houses lists 24 members on its website and, as interoperability bites, all these firms could be providing the same generic service (namely venue and asset class agnostic clearing). So it looks like we might be heading towards a situation of over supply, especially when compared with the solitary DTCC that performs the same function (at least for equities) in the USA.
Do we really want to see the same levels of cut throat competition between clearing houses that we have witnessed amongst trading venues? Will European clearing houses entice firms to clear through them by offering lower and lower fees or ever more speculative offsets?. And, more importantly, is this what we really want given that the primary role of a clearing house is to act as the last bastion of sanity when markets start to melt down? Sure, we could all use better margin offsets and more efficient use of our precious capital, but maybe it’s even more important that a clearing house never fails in its role as buyer to every seller and vice versa.