Following the Fintech 2019 conference we hosted last week, I found myself thinking about many of the underlying themes that were discussed. Not just new technologies for things like crypto assets or distributed ledgers, but also how that technology is implemented and the possible ramifications and unintended consequences when we use them without appropriate processes or safeguards in place to mitigate risk. It’s a lesson we’ve had to learn repeatedly in our industry.
Consider the U.S. Treasury securities markets. In the last decade, new technology has dramatically changed operations of the Treasury cash markets, with explosive growth in the use of electronic and automated trading. In fact, new participants in the market often focus extensively, or even exclusively, on that type of trading.
DTCC has been a strong advocate of using technologies that make the markets more effective and efficient. We have an obligation, however, when we see a potential increase in systemic risk to try to resolve it. We believe in markets that provide clearing certainty among participants who understand the rules and potential risks involved in a trade.
Increasingly, we have seen a large percentage of the U.S. Treasury market move away from central clearing to bilateral clearing, especially among principal trading firms through platforms of interdealer brokers. This shift prompted the U.S. Treasury Department and the New York Fed’s Treasury Market Practices Group to study the matter in detail and issue successive white papers concerning such over the last two years.
The concerns they raised about bilateral clearing were consistent and not surprising –credit risk remaining with the counterparties, less standardized and less transparent risk mitigation, reduced netting benefits, funding primarily sourced from uncommitted arrangements.
At DTCC, we’ve demonstrated the benefits of a cohesive, unified central counterpart clearing system: reduced settlement and operational risk, standard risk mitigation, optimized capital usage and, perhaps most important, the ability to safeguard U.S. financial markets from a “fire sale” approach triggered by a counterparty failure that would damage the financial system.
“We believe in markets that provide clearing certainty among participants who understand the rules and potential risks involved in a trade.” – Mike Bodson
We were pleased with the SEC’s decision in March to approve our rule filing to extend central clearing capabilities to the institutional market and to allow a broader group of market participants to join the Sponsored Membership program. And we believe that further expansion of central clearing will strengthen financial stability in the U.S Treasury securities markets.
It’s clear that markets will continue to evolve as a result of technological innovation, but increased speed and volume are only pieces of the equation: We must remain vigilant in promoting the core principles of market safety to maintain sound, efficient markets.
For more information, please read DTCC’s position paper, Central Clearing in the U.S. Treasury Cash Market.