European banks consider leaving UK derivatives market
Rising concern among executives about access to clearing houses after Brexit
European banks are weighing up whether to begin closing out their trillions of pounds’ worth of derivatives positions in London in the coming months as the UK struggles to finalise a political agreement to exit the EU.
Concern is rising among senior executives that they will lose access to UK clearing houses, which sit at the heart of global market stability. The companies process thousands of securities and derivatives deals a day, standing between parties in a deal and managing the risk to the market if one side defaults on payment.
London’s clearing houses, in particular LCH, process most of Europe’s swaps business. The Bank of England estimates that around £38tn of deals are affected by Brexit, including 90 per cent of euro-denominated interest rate swaps.
The deliberations come as the UK and EU step up their contingency plans for the UK’s departure from the bloc in March without a political agreement. Brussels has been working for months to screen its financial services regulations and find rules that need to be changed because of Brexit.
“The financial markets are usually ahead of the political debate. If there is no transition period agreed in December, you will see the derivative market reacting already . . . it does not happen on April 1,” said the chief executive of a major European bank with positions in London.
EU institutions make up around 15 per cent of the total $332tn in interest rate swaps transacted at LCH.
The clearing house, which is majority-owned by the London Stock Exchange Group, has told customers that in the event of a no-deal Brexit, it will have to issue 90 days’ notice that EU customer positions would have to be closed, according to four people who have had conversations with LCH.
It is likely that those notices would be issued in November or early December. LCH declined to comment.
Esma, the European regulator, has told UK clearing houses — LCH, ICE Clear Europe and the London Metal Exchange — that they may not be able to submit applications to be recognised until after the UK has left the EU, thus preventing them from continuing to do business with their members based in the European Economic Area after the end of March.
At a derivatives conference in London last week, an audience survey overwhelmingly found it would be “highly disruptive” if there was no coordinated action from the UK and EU regulators to avoid a situation in which UK clearing houses are forced to offload their EU members.
Senior derivatives executives and lawyers worry that there are limited options available for them if access to UK clearing houses is cut off. Some have privately said that their business may have to transfer out of Europe, to the US or Asia, or be negotiated between banks.
“There’s no easy mechanism for moving a trade from one clearing house to another. Both counterparties must move at the same time. Re-executing trades is a big problem,” Laura Muir, head of strategy and bank structure at Barclays, told the conference.
Transferring derivatives business would mean closing out thousands of swaps and futures deals and opening new positions elsewhere. That would potentially cost banks and other holders of swaps millions of dollars in extra margin payments and in associated capital costs.