Clearing houses have reduced the risk of disruption from derivatives. But regulators have created institutions that are too big too fail
, is an unlikely setting for financial-market shenanigans. But the fishing town is home to Einar Aas, a trader who took huge bets on Scandinavian energy markets. His 15 minutes of infamy came in September 2018, when his bets went spectacularly wrong. Unable to cover his losses, he blew a €114m hole in the capital buffers of Nasdaq Clearing, which handled his trades. Other members of the clearing house—mostly banks and energy-trading companies—were called upon to replenish its buffers.
A call like Mr Aas’s is rare. Before trading through a clearing house, the parties must post an “initial margin”. When Lehman Brothers defaulted in 2008 a British clearing house,, was able to cover all Lehman’s trades with its initial margin. If bets are souring, clearing houses can demand extra “variation margin”. Mr Aas posted a further $42m as markets moved against him. But when he failed to meet another margin call on September 10th, his positions were liquidated.
Now suppose the fund wants to buy an option—say, the right to buy $100m-worth of Apple shares at today’s price in a year’s time. The price it pays—the premium—will settle quickly, but the parties’ ongoing exposure will vary during the year. If Apple’s share price rises sharply before its end, the right to buy those shares at the old price becomes more valuable. If the bank holding the shares goes bust before the year is out, the clearing house will be on the hook.
Skimpy margin requirements or shallow default funds increase the chance that the default of a big member would leave a clearing house with large unmatched positions. It would then have just four possible sources of capital: its owner, usually an exchange; its members, usually investment banks; its customers, mostly investment funds—or, in extremis, the taxpayer.
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