FX “Smart Clearing” Takes a Step Forward with New Quantile Service
Posted by Colin Lambert. Last updated: March 9, 2023
Optimisation services provider Quantile says it has developed the FX market’s first backloading service, something it says will accelerate the shift towards “smart clearing” of FX forwards and swaps.
FX Smart Clearing is an initiative from LCH ForexClear in response to the standardised approach to measuring counterparty credit risk (SA‑CCR), which has significantly increased capital requirements for banks trading FX derivatives. Quantile says a proof of concept (PoC) last year with ForexClear generated “a compelling case” for a backloading service. The PoC was in two stages with one run of 10 participating banks achieving an average reduction in capital requirements of 38% and one involving 21 entities achieving a 50% reduction.
Due to the higher counterparty risk weighting, uncleared FX has a large capital requirement of 20-100%. By moving FX forwards and FX swaps into LCH ForexClear, the PoC found the capital requirement materially reduces to 2%. Quantile observes that clearing also enables participants to benefit from greater multilateral netting, and trades are treated as settled to market (STM) which further reduces SA-CCR exposure.
Once live after the testing stage, the service will follow Quantile’s established optimisation process. Participants would choose their optimisation objectives and constraints, and Quantile’s algorithms would select which trades to backload while also generating new risk overlay trades which reduce financial resource requirements. The resulting FX forwards portfolio would then be submitted to LCH ForexClear to clear on behalf of its members.
“We are pleased to have pioneered optimised backloading at LCH ForexClear, and would like to thank our clients for their participation and support in delivering the first PoC run,” says Esben Urbak, head of product at Quantile. “The service has great potential to materially reduce capital requirements without increasing margin costs and we’re proud to have been at the forefront of this innovation. Over and above the obvious benefits of clearing, additional capital reduction can be generated once the trades are all facing a single CCP counterparty – our PoC proved that additional benefits can be easily achieved beyond the bilateral space.”
Andrew Batchelor, COO and head of product, LCH ForexClear, adds, “We are delighted to see Quantile deliver the market’s first optimised backloading service to enable FX Smart Clearing. LCH ForexClear is a very efficient place to hold risk, and Quantile’s optimisation service will significantly reduce capital and funding requirements under SA-CCR. We look forward to seeing the service go live so members can benefit from the strong network, improved capital efficiency and deliver further optimisation benefits from facing a CCP.”