Wednesday, October 22, 2008

Credit Swap Clearinghouse May Start By November, Barclays Says

(Bloomberg) A central clearinghouse for credit-default swap trading may open by next month after pressure from the U.S. Federal Reserve for a means to absorb losses should a market maker fail, according to Barclays Capital strategists.

Fed officials and New York's insurance regulator have been pressing the $55 trillion market to create a central counterparty after Lehman Brothers Holdings Inc.'s bankruptcy last month. Because swap contracts are traded bilaterally between banks, hedge funds, insurers and other institutional investors, default by a major dealer threatens market stability by risking losses at everybody they've traded with.

While ``progress has occurred at a slower-than-desirable pace, recent events have accelerated the rollout,'' New York- based Barclays credit strategists Bradley Rogoff and Gautam Kakodkar wrote in a note to clients dated Oct. 17. ``Expected go- live date is late October or early November.''

Four groups have been vying to operate clearing operations, including a partnership between Chicago-based CME Group Inc. and Citadel Investment Group LLC and a group that includes dealer- owned Clearing Corp., Intercontinental Exchange Inc. and credit swap index owner Markit Group Ltd. Eurex and NYSE Euronext have also submitted proposals.

``The CCorp./ICE partnership announced last week should provide the CCorp. solution with increased credibility,'' Rogoff and Kakodkar said. ``The CCorp./ICE solution also has the backing of the dealer community, Markit and Risk Metrics.''

`Moving Aggressively'
ICE spokeswoman Kelly Loeffler said in a telephone interview that no specific start date has been announced. Clearing Corp. said in a Sept. 29 statement that it is ``moving aggressively'' to start clearing some trades by year-end.

A clearinghouse, capitalized by its members, all but eliminates the risk of trading partner default by being the buyer for every seller and the seller for every buyer. It employs daily mark-to-market pricing where margin calls are made if a trader's position has lost money that day. Traders who can't pay have their positions liquidated.

The model differs from the over-the-counter market where traders rely on their counterparty to make good on their agreements. The credit-default swap market trades OTC and has faced payment problems after Lehman and Bear Stearns Cos. collapsed this year.

Clearing Corp. is owned by Goldman Sachs Group Inc., Morgan Stanley and other finance companies.
Credit-default swaps, contracts conceived to protect bondholders against default, pay the buyer face value in exchange for the underlying securities, or the cash equivalent, should a company fail to adhere to its debt agreements.

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