ESMA Averts No-Deal Brexit Clearing Disaster

There will be three authorized clearing organizations based in London, even if a no-deal Brexit shocks the market. The news

There will be three authorized clearing organizations based in London, even if a no-deal Brexit shocks the market. The news is a welcome development for European financial markets even though it has been signaled in advance by the regulators.

The ESMA stated that LCH Limited, Ice Clear Europe and LME Clear Limited would be allowed to provide their services in the EU. The move averts a disruption of central clearing which could have a detrimental effect on financial stability across both sides of the La Manche.

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The decision comes after the ESMA indicated on three previous occasions that it is working on the issue. All CCPs have been approved after providing documentation supporting their applications. The decision has been made under EMIR, classifying the venues as “third country CCPs.”

Risk of Disruption

The risks of disruption to the financial system across the EU due to the lack of appropriate clearing venues have been material. The decision on the part of the pan-European regulator has come amid increasing pressure from a looming no-deal Brexit.

The latest political developments in the UK have resulted in an increased chance of a no-deal Brexit. Some cabinet ministers are said to be weighing on Theresa May for a second referendum. A development which would dramatically shift the odds.

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Futures and OTC Derivatives

Regardless of the news about clearinghouses, UK and EU traders will be entering two different capital markets should any Brexit agreement falls through by the 29th of March. The issue of securing access to clearing houses for EU clients has been related to “market plumbing.”

EU-based banks have been traditionally relying on London’s clearing houses for their dealings with various derivatives contracts. The EU’s financial regulator effectively secured that this practice remains unscathed by Brexit negotiations.

The main EU venues affected by the issue are those dealing with energy and commodities contracts. ESMA’s decision ensures equivalence approvals to futures exchanges that run clearinghouses because futures are cleared.

Without the equivalence, if an EU bank is holding a listed futures contract opened in London after the date of Brexit, would have it treated as an OTC derivative. With margin requirements for such contracts traditionally higher, the firm could be faced with new reporting obligations.

As to the latter, the EU and UK authorities have already published their EMIR reporting standards in the case of no-deal Brexit. The FCA, PRA and the Bank of England also received new powers in order to mitigate potential stress to financial institutions.

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