2012/13 Assessment of ASX Clearing and Settlement Facilities B1.1 ASX Clear

Standard 18: Tiered Participation Arrangements

A central counterparty should identify, monitor and manage the material risks to the central counterparty arising from tiered participation arrangements.

Rating: Observed

During 2012/13, clients of ASX Clear's participants represented 85 per cent of derivatives initial margin held by ASX Clear in respect of its credit exposures to both participants and (indirectly) their clients. In managing the risks associated with tiered arrangements, ASX Clear is able to gather information on indirect participation, but its ability to monitoring tiering risks is limited by the commingling of house and client cash market positions. This is mitigated by an ability to seek more granular information from participants on an ad hoc basis (CCP Standards 18.1, 18.2). ASX Clear does not maintain formal thresholds at which substantial indirect participants are encouraged to seek direct participation, but does actively manage risks posed by indirect participant activity through its relationship with the direct participant (CCP Standard 18.3). ASX Clear is currently developing a formal policy for monitoring concentration in tiered participation arrangements, including mitigating steps (CCP Standard 18.4).

The Bank encourages ASX Clear to investigate options to improve its ability to monitor risks arising from tiered participation arrangements (CCP Standard 18.1). These may include options to gather more granular data in respect of cash markets in light of any changes to cash equity client account structures, and more broadly options to automate existing monitoring activities in respect of tiered participation risks.

Based on this information, the Bank's assessment is that ASX Clear has observed the requirements of CCP Standard 18 during the 2012/13 Assessment period. ASX Clear's approach to tiered participation arrangements is described in further detail under the following sub-standards.

18.1 A central counterparty should ensure that its rules, procedures and agreements allow it to gather basic information about indirect participation in order to identify, monitor and manage any material risks to the central counterparty arising from such tiered participation arrangements.

ASX Clear is able to gather information on indirect clearing of equity derivatives by virtue of the individually segregated account structure employed for these products. There are, however, practical limitations in the analysis of indirect participation in cash securities clearing, as the commingled account structure means that ASX is unable to separately identify client positions either at an aggregate or individual level. Options for improving ASX Clear's ability to monitor indirect clearing of securities trades will depend on the outcome of its consultation on account structures (see CCP Standard 13). ASX Clear will reconsider its options for concentration monitoring in this market once the results of this consultation are known. However, ASX Clear is able to monitor significant changes to indirect participation arrangements through its regular risk discussions with participants, including third-party clearers. Business Development, ASX Compliance, Clearing and Settlement Operations and CRM are each involved in the discussion of changes to participants' business models, including those that relate to tiered participation arrangements. For instance, ASX's discussions with third-party clearers have identified situations in which clients of a trading participant clearing via a third-party clearer have taken up large options positions, and in which a third-party clearer took on significant new third-party business over a short period. In both situations ASX increased monitoring of the participants' positions and investigated whether the participants in question had adequate resources and risk management arrangements in place to properly manage the additional risks posed by these situations.

If required, ASX Clear requests more granular information on any indirect client from participants. This information may include further details about the indirect participant including, but not limited to, their intentions in regards to their open positions or physical delivery. In addition, ASX Clear also has an ongoing program of ‘thematic’ participant reviews, covering risk topics of interest or concern, which could potentially encompass tiering risks if ASX Clear were to perceive an increased risk from indirect relationships. ASX Clear currently considers the risks from concentration of indirect participants to be low.

18.2 A central counterparty should identify material dependencies between direct and indirect participants that might affect the central counterparty.

As noted under CCP Standard 18.1, ASX Clear monitors dependencies arising from tiered participation indirectly through a variety of means, including regular discussions with participants on developments in their business and risk management activities, participants' own risk assessments, discussions with new participants as part of the induction process, monitoring of delivery risk (e.g. options expiries), and ASX Clear's broader array of risk management data collection and monitoring activities. Based on this information, ASX Clear has not identified any material dependencies between direct and indirect participants.

18.3 A central counterparty should identify indirect participants responsible for a significant proportion of transactions processed by the central counterparty and indirect participants whose transaction volumes or values are large relative to the capacity of the direct participants through which they access the central counterparty in order to manage the risks arising from these transactions.

An important potential source of tiered participation risks in ASX Clear arises in the context of the third-party clearing market. Much of the activity in third-party clearing is concentrated in a single participant, but over the Assessment period this participant represented only a small proportion of total positions held at ASX Clear. ASX monitors this participant, and the third-party clearing market more broadly, in the context of its participant monitoring activities described under CCP Standard 18.1.

ASX encourages participants to develop appropriate risk control measures in managing their relationships with indirect participants. ASX does not set thresholds, either formal or informal, at which it would encourage direct participation by an indirect participant. In general, ASX's approach to managing risks associated with participants' business activities is based on a robust risk management framework with the flexibility to detect and react to new risks as they arise, rather than setting firm ex ante activity limits. This approach has worked well in managing risk events in recent Assessment periods, notably in managing the default of MF Global in late 2011. In the 2012/13 Assessment period, ASX Clear's participant enforcement was important in managing the transition to regular cash-equity margin collections, which required adjustments to the risk management policies and business activities of some participants.

18.4 A central counterparty should regularly review risks arising from tiered participation arrangements and should take mitigating action when appropriate.

ASX is undertaking a broad review of its concentration risk policy due to be finalised in early 2014, including its approach to the risks arising from tiered participation. The policy will set out key concentration indicators for ASX Clear to monitor, including metrics measuring concentration across clearing participants, across clients and across products. The policy will also address possible mitigating action, although ASX recognises that indicators may return a number of false positives.