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Optimal Central Counterparty Risk Management

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  • Philipp Haene
  • Andy Sturm

Abstract

In order to protect themselves against the potential losses in case of a participant's default and to contain systemic risk, central counterparties (CCPs) need to maintain sufficient financial resources. Typically, these financial resources consist of margin requirements and contributions to a collective default fund. Based on a stylized model of CCP risk management, this article analyzes the main factors affecting the trade-off between margins and default fund. The optimal balance between these two risk management instruments is found to depend on collateral costs, participants' default probability, and the extent to which margin requirements are associated with risk-mitigating incentives. Given the increasing role of CCPs in financial markets in general and for financial stability in particular, these considerations are not only important for CCPs themselves, but also for financial regulators.

Suggested Citation

  • Philipp Haene & Andy Sturm, 2009. "Optimal Central Counterparty Risk Management," Working Papers 2009-07, Swiss National Bank.
  • Handle: RePEc:snb:snbwpa:2009-07
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    File URL: https://www.snb.ch/n/mmr/reference/working_paper_2009_07/source/working_paper_2009_07.n.pdf
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    Cited by:

    1. Nahai-Williamson, Paul & Ota, Tomohiro & Vital, Mathieu & Wetherilt, Anne, 2013. "Financial Stability Paper No 19: Central counterparties and their financial resources – a numerical approach," Bank of England Financial Stability Papers 19, Bank of England.
    2. Jorge Cruz Lopez & Mark Manning, 2017. "Who Pays? CCP Resource Provision in the Post-Pittsburgh World," Discussion Papers 17-17, Bank of Canada.
    3. Siyi Zhu, 2011. "Is there a 'race to the bottom' in central counterparties competition?," DNB Occasional Studies 906, Netherlands Central Bank, Research Department.
    4. Cumming, Fergus & Noss, Joseph, 2013. "Financial Stability Paper No 26: Assessing the adequacy of CCPs' default resources," Bank of England Financial Stability Papers 26, Bank of England.
    5. Jean-Sébastien Fontaine & Héctor Pérez Saiz & Joshua Slive, 2012. "When Lower Risk Increases Profit: Competition and Control of a Central Counterparty," Staff Working Papers 12-35, Bank of Canada.
    6. Radoslav Raykov, 2016. "To Share or Not to Share? Uncovered Losses in a Derivatives Clearinghouse," Staff Working Papers 16-4, Bank of Canada.

    More about this item

    Keywords

    Central counterparty; margin requirements; default fund; financial stability; incentives;

    JEL classification:

    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • G18 - Financial Economics - - General Financial Markets - - - Government Policy and Regulation

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