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Standardization in OTC Clearance and Settlement

Standardization in OTC Clearance and Settlement. Return to Risk Limited website: www.RiskLimited.com. February 25, 2004. Holly Arney: Chief Risk Officer Actuarials Exchange. Standardization in Energy: Finding Hidden Risk. Four major areas of current risks: Industry / Regulatory Risk

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Standardization in OTC Clearance and Settlement

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  1. Standardization in OTC Clearance and Settlement Return to Risk Limited website: www.RiskLimited.com February 25, 2004 Holly Arney: Chief Risk Officer Actuarials Exchange

  2. Standardization in Energy: Finding Hidden Risk • Four major areas of current risks: • Industry / Regulatory Risk • Legal / Contract Risk • Operational Risk • Default Risk

  3. Regulatory Risk: Credit Stress in the Energy Industry – The Problem • Indictments continue, but appear to be winding down • Continued Stressors in the industry hitting Wall Street Targets and Layoffs • FERC, CFTC, DOE, DOJ and SEC are looking at ways to prevent future crises • Continued unstable regulatory environment • + Reliability Standards and Must Run Standards • + Consumer Protections • + Energy Bill • + Customer Protections

  4. Regulatory Risk: The Senate Energy Bill • Ensures reliable and affordable electricity, repeals antiquated laws that have cost consumers billions of dollars and prohibit onerous federal meddling that could cost consumers billions of dollars more. It increases penalties for market manipulation and enhance (sic) consumer protections. • Title 12, Overview of Senate Energy Bill 2004

  5. Creating Terra Firma • Creating reliable wholesale prices for NG and Electricity • Educating the Public – Market Supply and Demand • Ensuring a secure supply of commodities by encouraging development

  6. Update: Clearing • Clearing Competition – still Nascent • Not Favored by Exchanges / Clearinghouses • Favored by End-User • Eurex and new entrants to the market • Setting Sane Limits • On the formation of multi-exchange and clearinghouse efforts • Issues • Size of Market • Assumption of Obligations in multi-exchange • What legal recourse is there in a default event? • Assigning Rights

  7. Cost Effectiveness: Alternatives • Clearing • Mutualization • Least Expensive • Nascent • Bilateral Netting (MNA) • Limited Amounts • Lack of Standardization • Little Risk Diversification • Bilateral Cross-Commodity Netting • Increased benefit to a degree • Standardization Issues • Holding the Risk

  8. Standardized Clearing • Rules & By-Laws • Procedures • Decision Makers • Recourse (arbitration or other legal redress) • Margining • Initial Margin • Variation / Daily / Pass-through Margin • Setting Sensible Levels • Confidence Levels • Time • Methodology • SettingProduct Limits & Guarantee Fund

  9. Physical Default Peculiarities • The philosophy of commodities • Standard • Wholesale • Time Sensitivity • Transmission & Bottlenecks • Price Transparency & Replacement Cost • 5000% or more • Standard Market Design – the holy grail 2006

  10. Further Questions: holly.arney@actuarials.com

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