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Under-collateralisation and rehypothecation in the OTC derivatives markets.

Abstract

At present there is sizable activity in the OTC derivatives market that is under-collateralised. The margin/collateral requirements at central counterparties (CCPs) should help the OTC derivatives market be better collateralised, lowering the derivatives risk at the large banks that dominate this market. However, the overall netting benefits may be less if the several CCPs that are in operation are not linked. Also, large banks make very effective use of collateral they receive that has rehypothecation rights.1 This implies that overall cost to large banks in moving OTC derivatives to CCPs will be sizable.

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