Counterparty Risk and the Role of CCP

Day One Counterparty Credit Risk Regulations & the Regulatory Environment: An Introduction

• Dodd-Frank

• EMIR

• Counterparty credit risk training explores the introduction of CCPs for OTC Derivatives

• Governance and regulatory oversight

• CPSS-IOSCO Standards

Overview of the OTC Products

Simple exercises to check for understanding and answer any questions regarding OTC products:

• Interest Rate Swaps

• Foreign Exchange Forwards

• Credit Risk Swaps

• Options

Counterparty Credit Risk in OTC Derivatives

• How is credit risk in derivatives measured?

• Basic calculations in CVA and DVA Counterparty Credit Risk

• Measuring CCR (Counterparty Credit Risk)

• Examples of how CCR occurs and the risks involved: IRS example (following the life of the trade, we see how the CCR changes)

• Measuring the CCR of an FX forward

• CCR risk in options

Quantifying Exposure

• VaR

• Expected Exposure (EE)

• Monte Carlo Simulations

• Potential Future Exposure (PFE)

• Expected Positive Exposure (EPE)

Netting Agreements

• The ISDA Master Agreement and the CSA (Credit Support Annex)

• Case Study: Example of how a CSA works in practice. We follow an IRS transaction and see collateral calls, including threshold, MTA, margining, etc.

Exchange-Traded Derivatives, Clearing and Settlement

• Margining / Variation and Initial

• Mark to Market (MTM)

• Executing and Clearing Brokers

• Central Counterparty

• “Give–Ups”

• Commissions

• Case Study: We review a futures trade placed in the market by a client. Follow the role of the executing and clearing broker, margining requirements, give-ups and cash flows.

OTC Derivative Clearing and Settlement

• Confirmation and affirmation of counterparty pre-settlement risk

• Case Study: We examine the payments during the life of an IRS within a CCP. The valuation and margins required. And how one swap works within a portfolio.

• Payments and Controls (SWIFT)

• Nostro reconciliation and breaks

• Novation: How does it work - a solution to counterparty risk?

• Tear Ups

Day Two The Function and Benefits of CCPs

The Central Counterparty Clearing Process

• The Role of the Central Counterparty

• “AIG” and “Lehman Failure” risk

• Major CCPs / CME Clearing, Euronext/Liffe BClear, ICE Clear, etc

• “Close Out” Netting

• Collateralisation of Residual Net Exposures

• The mechanics of OTC Derivative Clearing

• Multilateral Compression and Tear Ups

• Novation

• How a CSD trade has been standardised for clearing

• Exercise: Calculate the values of a CDS trade from a Bloomberg screen. Ensure their understanding of the standardisation “Big Bang”

• Case study: How the CCP works. We look at a flow diagram, putting all the individual parts together.

The Major OTC Derivative platforms

• MarkitSERV

• SwapClear

• DTCC Deriv/SERV: TIW

Case study: clearing swaps

Exercise: What might happen if a major CCP went bankrupt? What are the major safeguarding factors a CCP should implement to ensure this doesn’t happen?

What is the Risk of a CCP?

• What happens if a counterparty goes bankrupt?

• Counterparty credit risk courses assess CCP disasters: Kuala Lumpur Commodity Clearing House 1983

• Hong Kong Futures Guarantee Corp 1987

CCPs and systemic risk

Domino effect: the systemic effect of a CCP failing

Deleveraging and Runs

Broker-Dealer Default and Auction Process

Managing defaults

Default Waterfall: the protection when default occurs:

• Defaulting member’s initial margin and default fund contribution

• Part of CCP Equity

• Surviving members’ default fund contributions

• Rights of Counterparty Credit Risk Assessment

• CCPs Remaining Equity

Procyclical Effects

Impact of CCP Default on Banks

CCP Recovery and Resolution Planning

• CPSS – IOSCO / Recovery and Resolution Planning 2012

• Latest Papers

• Resolution Tools: EMIR Requirements

• Initial Margin Haircuts

• Stress Testing

• Default Loss Scenarios

• Non-Default Loss Scenarios

• Fraud – Loss of Collateral

• Case Study: What sort of event could really test CCPs and their inter-reliance to destruction?  We consider several possible scenarios and evaluate what can be done.

Training Objectives

This counterparty credit risk training course at Redcliffe covers:

• The regulatory environment and policy created by Dodd-Frank and EMIR. How they have sought to reduce counterparty risk between financial institutions and avoid any future risk of procyclicality.

• How counterparty credit risk measurement is for derivatives. We look at Expected Exposure (EE), Potential Future Exposure (PFE) and Expected Positive Exposure (EPE).

• How counterparty credit risk exposure occurs in all the major derivative products.

• Current credit risk reduction techniques used in the market today.

• Gain knowledge of the function of a Central Counterparty (CCP) and how it operates.

• Master the major global CCPs, examine what can go wrong, and what happens if a CCP goes bankrupt.

Training Course Summary

This course will provide you with a thorough overview of Counterparty Credit Risk for immediate use in your day-to-day operations.

We use credit risk case study examples to illustrate how Counterparty Risk occurs and learn credit risk mitigation techniques. This includes how the CCP operates and the residual, but with very real-world risks remaining in the Counterparty market risk today.