TMX Group to launch bond clearinghouse

By Mark Noble | December 15, 2009 | Last updated on December 15, 2009
3 min read

A proposed clearinghouse for trading in repurchase agreements (repos) is expected to greatly enhance the efficiency and safety of Canada’s short-term fixed income market.

TMX Group’s Canadian Derivatives Clearing Corporation (CDCC) has been commissioned by the Investment Industry Association of Canada (IIAC) to develop the infrastructure for central-counterparty services to the Canadian fixed income market.

Both the Bank of Canada and the IIAC have been pushing for a better domestic repo clearinghouse, where financial institutions can buy and sell short-term fixed income securities, particularly Government of Canada bonds.

Repos essentially allow large financial institutions to juice their short-term returns on long-term fixed income securities. Participants in the repo market pledge collateral out of their long positions, which is used for short-term trades. Usually lenders are also active purchasers of bonds from other institutions.

According to an RBC Capital markets paper, the Canadian repo market is probably in excess of $100 billion with a daily turnover of $20 billion.

Unfortunately, the last 18 months has demonstrated the perils of counterparty risk in direct borrower-to-lender agreements. IIAC, with the support of the central bank, has pushed hard for a Canadian clearinghouse for repo securities similar to the U.K.’s London Clearing House.

The London fixed income market did not experience the liquidity problems in credit trading to the same degree as the Canadian market, says Ian Russell, president of the IIAC. Credit is essential to the proper functioning of the daily market and Russell believes it important that Canada has a system that increases the liquidity in the credit markets and mitigates the counterparty risk that exists in dealer-to-dealer trades.

“Having a clearinghouse is an important element to us because you’re not borrowing cash or lending cash to somebody where you’re taking the risk of that individual entity,” Russell says. “They used to do these repos with individual dealers. If the dealer went bankrupt while you had the trade on, you would be in a difficult spot in terms of getting back to your original position. That system has been replaced with borrowing through a central party clearinghouse, so you’re dealing with all entities in the market and not just one.”

In addition, the new clearinghouse will have a totally new netting facility which previously was not available in the Canadian marketplace. The netting facility will only require dealers in the clearinghouse to carry net-exposures to their repos on their balance sheet, rather than having to report all their short and long positions.

“When you’re going both ways in the transaction, you take on a large volume of transactions. This facility actually allows you to net them before you put numbers on the balance sheet,” Russell explains. “It’s a more efficient use of capital.”

John Rando, director of capital markets for the IIAC, says the organization has received the accounting clarification to offer the netting utility, and he hopes that will open the door for some new security structures to be traded in the market in the coming year.

“One of the important things we’re also looking to introduce is a general collateral repo that is currently not available in Canada,” Rando says.

So far the CDCC has 34 dealer members, but that is expected to increase once the new platform is operational.

“We are very pleased to have earned this opportunity and we thank the IIAC for their confidence in our organization,” says Tom Kloet, CEO of the TMX Group. “The development of a multilateral, centralized clearinghouse for fixed income products will further enhance the Canadian capital markets and will make its fixed income markets more attractive to domestic and international market participants.”


Mark Noble