Leave the Central Counterparties alone! UK’s angry and justified ultimatum to Europe

There could not be a worse judgement than for the central counterparty (CCP) entities that are operated by the world’s largest clearing houses than to move to mainland Europe.

London’s Square Mile,which, along with Canary Wharf just a few miles east constitutes the world’s largest financial district, houses not only the six Tier 1 banks that provide 49% of global FX order flow, but also the vast majority of the central counterparties that are used for trade settlement and clearing for the entire world’s electronic financial market economy.

The absolutely ludicrous notion that any of these entities would even entertain the prospect of moving their operations to the financial desert that is mainland Europe has been something of a point to which the pro-EU lobby in the United Kingdom has been vaunting, as well as the desperate hopes of the European Central Bank in a last ditch attempt to place the world’s financial epicenter on its turf by political lobbying rather than as a result of merit or value.

Of course, no central counterparty or clearing house would voluntarily leave London for anywhere in the European Union’s mainland, which is up to its gills in debt, has no electronic financial markets economy to speak of and is a dinosaur whereas the APAC region, North America and Britain are leading edge.

Thus, in true socialist fashion, the European Union has begun to make attempts to ensure relocation by non-meritable means, and has released proposals which could force operators to leave London as a result of Brexit, putting the capital’s multibillion pound industry at risk.

Technologically advanced Great Britain is one of the only nations in the world whose financial technology and financial services industries have been interlinked for over 30 years, and whose workforce, whether salespeople, programmers or senior corporate executives, are dedicated and highly experienced.

Britain’s financial services industry employs only 0.0009% of the entire adult population of the European Union, yet produces 16.7% of all tax receipts to Brussels. Now that’s productivity.

As Britain finalizes its exit from the ball and chain around its ankle, the vast abyss which contributes nothing to the advancement of Britain’s economy and does not participate at all in London’s financial services sector – quite the contrary actually considering that ailing Deutsche Bank does its electronic trading from London whilst its faltering and ill-managed banking arm flounders in Frankfurt – reports are now emerging to demonstrate exactly how much of a producer London’s financial services sector is.

Employing just 2.2 million people across Britain, the financial services sector contributes £176 billion to Britain’s already huge economy.

That is quite remarkable.

Although the domestic market is one of massive importance to British companies which have a long history of serving clients who are very loyal, the financial sector is Britain’s largest exporter, with a trade surplus of £72 billion.

This is another case in point. The export of financial services on an industrial scale represents the relationships between Hong Kong, South Korea, Singapore, North America, Australia, Canada and mainland China, not the European Union’s desolate financial environment.

In summary, as far as a holistic approach to the financial sector, from the Tier 1 banks right through to prime brokerage, platform development, market infrastructure, liquidity and connectivity, nobody does it better, hence Britain’s future as an independent beacon of financial services prowess is a very bright one indeed.

Hence, the soon-to-be independent Britain will benefit even more, and Europe will not be part of the equation at all, and as with most anti-business political environments which do not believe in free market economies, has no proposal to bring to the table that would entice business to be centralized in Europe, thus has begun to force the Bank of England and the British authorities into submission.

Even the most staunch Europhile could not argue a case for doing such a thing.

Mark Carney, Governor of the Bank of England showed his support for Britain remaining in the European Union and was widely chastised for such an opinion by City executives in the advent of the ‘Brexit’ voting process, however even Mr. Carney views this as a very problematic prospect.

Industry estimates suggest that a single basis point increase in the cost resulting from splitting clearing of interest rate swaps could cost EU firms €22bn per year across all of their business – Mark Carney, Governor, Bank of England

It is of course well and good explaining the capital cost of this to the European Parliament, however economics and left-leaning politics have never gone well together. This is a power struggle and therefore heralds potential problems for the institutional trading infrastructure giants should the European Parliament get its way.

MR Carney said today “”Fragmentation of such global markets by jurisdiction or currency would reduce the benefits of central clearing. Fragmentation is in no-one’s economic interest.”

Mr Carney, in a speech at Mansion House, said: “Industry estimates suggest that a single basis point increase in the cost resulting from splitting clearing of interest rate swaps could cost EU firms €22bn per year across all of their business.

“Moreover if the large stock of existing trades of EU firms – tens of trillions of euros in size- was trapped at a CCP which was no longer recognised by the European Commission, those EU firms would face capital charges as much as ten times higher than today unless and until they could move them.”

However, the governor welcomed parts of the proposals that would see co-operation arrangements between the EU authorities and their overseas counterparts, including potential provisions for deference to the rules to which a clearing house is subject in its home jurisdiction.

Mr Carney said: “The UK houses some of the world’s largest CCPs. For example, LCH in London clears swaps in 18 currencies for firms in 55 jurisdictions, handling over 90% of cleared interest rate swaps globally and 98% of all cleared swaps in euros.

“All currencies, products and counterparties benefit from the resulting economies of scale and scope” said Mr Carney.

This is a good case in point.

Germany’s attempts to take control of the London Stock Exchange were scuppered by exactly this.

LCH.Clearnet, owned by London Stock Exchange, is a large multi-asset class clearing house, serving a broad number of major exchanges and platforms as well as a range of OTC markets, its London operations being a mainstay of the OTC clearing ecosystem, however in the approach to the fraught proposed merger between Deutsche Boerse and London Stock Exchange, so much legal wrangling, political discourse and concerns from both Germany and England’s leading figures has resulted in a full investigation by the European Commission into the details of the merger having been launched.

FinanceFeeds reported last year that as a result of research by the European Commission, a merger would create the world’s largest margin pool with a value of 150 billion euros, therefore could impede competition for smaller trading venues that rely on LCH.Clearnet as well as other firms that offer similar collateral settlement services.

On that basis, London Stock Exchange’s response was poised last year to make a quick attempt to sell LCH SA in order to address proactively any anti-trust concerns. LCH Group which holds the European subsidiary LCH SA is 57% owned by the London Stock Exchange, with the remainder being owned by other users of the service.

It is ironic that the concerns of Lord Myners and other senior London officials with lifelong careers in the exchange traded derivatives sector in the largest financial center in the world were ignored by Germany, and that it has taken a report by the anti-business and staunch socialist European Commission whose interests are anti-British to stifle a potentially harmful merger which would have placed the control one of London’s fine institutions in Frankfurt, which is absolutely nowhere on the world’s financial markets and electronic trading stage.

The desperation that came about was sensed by Euronext, which is one of the key suitors for the purchase of LCH SA, for which London Stock Exchange wants £430 million, and had to sell it in order to put paid to the investigation into any potential anti-competitive nature of the proposed deal, and quite frankly to just get on with it.

In late October 2016, JPMorgan Cazenove was enlisted to oversee the sale of LCH SA, and all looked set to head to market and find a suitable acquirer, with Euronext being in the lead because it contributes around half of the revenue of LCH SA in clearing business from France, Holland, Portugal and Belgium.

Euronext appeared at the time to realize its position of strength in that it is strategically and operationally the most suitable acquiring party, and the shortlist of alternatives that would buy LCH SA is dwindling, however, Euronext has made it clear that it will not pay one penny for LCH SA.

In January this year, Euronext made an all cash offer to buy LCH SA and then canned it in March, not proceeding because of the failed merger between Deutsche Boerse and the London Stock Exchange, aligning exactly with FinanceFeeds predictions a year earlier that none of these deals would have a chance of proceeding. It would be like a New York entrepreneur going into business with Hugo Chavez.

In particular, Lord Myners, along with senior regulators in London, had concerns relating to how clearing operations can be expanded across both exchanges.

According to laws in America and Europe, notably the Dodd-Frank Wall Street Reform Act and the EMIR (European Market Infrastructure Regulation), exchange-traded swap contracts must be cleared through specific electronic clearing houses, a process which engenders greater transparency and in the case of London Stock Exchange, its own subsidiary LCH.Clearnet is used for this purpose.

The case in point here is that nowadays, with large banks better capitalized, transactions are now being passed to institutions with very little capital at all therefore if large trades went wrong, there could be massive exposure, and as a result, a question mark hangs over the corporate governance of a new entity consisting of the London Stock Exchange and Deutsche Boerse with its head offices in two separate countries, which could lead to a shirking of responsibilities by British and European regulators, or a degree of buck-passing. Counterparty risk is, after all, a very important subject post SNB EURCHF peg removal.

The incumbent Chairman of the Treasury Select Committee Andrew Tyrie is on the fence regarding the potential British exit from the European Union, however he has been vocal regarding the standardized EU regulations across all industry sectors, stating that there is absolutely no reason to fear a standard EU ruling on all industry matters. Indeed, Mr. Tyrie’s perspective on this matter is evident here, as he does not fear the potential difficulties which could arise from a merger between Britain and Germany’s flagship traditional exchanges, as it would appear to be manageable via standardized regulation.

Mr Carney is using the ‘cost’ card to attempt to frighten off the dark shadow of the European Union, however he only needs to bide his time and the entire industry will realize that CCPs in the hands of technologically bereft socialist siesta countries would be the kiss of death.