Clearing house

According to 15 USCS § 78c (23) (A) the term ‘‘clearing agency’’ means any person who acts as an intermediary in making payments or deliveries or both in connection with transactions in securities or who provides facilities for comparison of data respecting the terms of settlement of securities transactions, to reduce the number of settlements of securities transactions, or for the allocation of securities settlement responsibilities. Such term also means any person, such as a securities depository, who

(i) acts as a custodian of securities in connection with a system for the central handling of securities whereby all securities of a particular class or series of any issuer deposited within the system are treated as fungible and may be transferred, loaned, or pledged by bookkeeping entry without physical delivery of securities certificates, or

(ii) otherwise permits or facilitates the settlement of securities transactions or the hypothecation or lending of securities without physical delivery of securities certificates.

(B) The term ‘‘clearing agency’’ does not include

(i) any Federal Reserve bank, Federal home loan bank, or Federal land bank;

(ii) any national securities exchange or registered securities association solely by reason of its providing facilities for comparison of data respecting the terms of settlement of securities transactions effected on such exchange or by means of any electronic system operated or controlled by such association;

(iii) any bank, broker, dealer, building and loan, savings and loan, or homestead association, or cooperative bank if such bank, broker, dealer, association, or cooperative bank would be deemed to be a clearing agency solely by reason of functions performed by such institution as part of customary banking, brokerage, dealing, association, or cooperative banking activities, or solely by reason of acting on behalf of a clearing agency or a participant therein in connection with the furnishing by the clearing agency of services to its participants or the use of services of the clearing agency by its participants, unless the Commission, by rule, otherwise provides as necessary or appropriate to assure the prompt and accurate clearance and settlement of securities transactions or to prevent evasion of this title;

(iv) any life insurance company, its registered separate accounts, or a subsidiary of such insurance company solely by reason of functions commonly performed by such entities in connection with variable annuity contracts or variable life policies issued by such insurance company or its separate accounts;

(v) any registered open-end investment company or unit investment trust solely by reason of functions commonly performed by it in connection with shares in such registered open-end investment company or unit investment trust, or (vi) any person solely by reason of its performing functions described in paragraph 25(E) of this subsection.

The derivatives markets´ main purpose is to allow transferring risks among the economy’s different participants. The most well-known derivatives contracts are forwards, futures, options and swaps. There are also a lot of custom-made combinations generically known as “exotic derivatives”.

These derivatives contracts will comply with their purpose of transferring risk as long as they are fulfilled. That’s why, one of the main interests of those participating in the derivatives exchanges and the entities that regulate them is the fulfillment of said instruments.

The derivatives markets can be organized in two ways and generally both forms coexist and feed on each other:

• “Institutionalized” or “Formal” markets, generally known as Futures Exchanges, due to the contracts that they trade.
• “Over-the-Counter” (OTC) or “Informal” markets.

The main characteristics of each one of them is listed below:

Derivatives Clearinghouse

It is a company whose main purpose is to register, clear, settle and guarantee the trades concluded in the futures exchange. To this end, it must fulfill two basic functions:

• To be a legal counterparty of all contracts, becoming the buyer of all sellers and the seller of all buyers. This allows simplifying the legal relationships as each participant holds one bought or sold position before the Clearinghouse and can offset it by making an inverse trade, no matter the participant that is on the other side.
• To manage a guarantee system, whose bases are:

1.             Each participant’s losses and profits are paid and collected daily (procedure known as mark-to-market)
2.             If any participant does not comply with its mark-to-market obligation, its trades are close out in the market.
3.             When concluding a trade, each participant has to post a guarantee whose purpose is to cover the losses that may entail the close out of the position due to its non-fulfilment.

Beyond its basic functions, the clearinghouse activity is very specialized and complex, as it has to manage a group of risks inherent in the derivatives trading, which are the following:

• Legal Risks
• Market Risks
• Credit Risks
• Operational Risks
• Depositary Agents Risks