The DFP program is designed to offer participants individual segregation in the US, which cannot currently be offered due to bankruptcy code constraints. DFP allows participants to eliminate fellow customer risk and does not require the DFP clearing member to contribute to the default fund or be subject to assessments. A legal memorandum has been obtained from outside counsel by CME which concludes that DFPs should be not be treated as a customer under the bankruptcy code and thus would not be subject to fellow customer risk.
DFPs must meet all the same requirements as Clearing Members with the exception of the following:
Prior to becoming a DFP, CME risk staff will review the applicant’s operational capabilities; risk management capabilities; settlement bank arrangements, including its ability to meet intra-day settlement variation and initial margin calls, and liquidity resources. DFPs must also own the memberships required under the program to become a Clearing Member of each applicable DCM (1 CME Full, 1 CBOT B-1/Full, 2 NYMEX, 2 COMEX) and execute a reimbursement agreement with the DFP’s Guarantor. Memberships are only required to the extent that the DFP wishes to trade products associated with the specific DCM. For example, a DFP wishing to trade only energy products would only be required to purchase the two NYMEX memberships. Similar to Clearing Membership for IRS, DFPs in the IRS clearing service are not required to own such memberships.
DFP Guarantors must be an FCM, must meet all the same Clearing Member requirements under CME rules, and must hold 4% capital against the performance bond requirement of its DFPs, rather than 8%, due to the requirement that the DFP post the remaining 4% with CME as initial margin. DFP Guarantors are responsible for any Guaranty Fund or Assessments related to the risk of its DFP’s positions. CME staff will evaluate the sufficiency of a DFP Guarantor’s operational capabilities, risk management capabilities, and financial resources (to the extent not already completed) prior to approving the Guarantor’s new DFP Clearing Member. As noted above, the DFP will be required to deposit a minimum of 4% additional initial margin with the CME or for base, margin based on a two-day liquidation period, whichever is greater.
A DFP will have its own position and settlement/collateral accounts at the Clearing House, just as any other Clearing Member. DFPs must also have their own settlement account at a CME approved settlement bank in order to meet settlement variation and initial margin calls (intra-day, end-of-day, and ad-hoc).
A DFP would meet CME margin calls directly through the settlement account that the DFP establishes with a CME approved settlement bank. The Clearing House would have direct debit authority over such settlement account, just as it does with any other Clearing Member. The DFP is required to meet its settlement variation and initial margin calls within the same timeframe as a traditional clearing member (intra-day, end-of-day, and ad-hoc).
For DFPs, full clearing members, and certain LSOC customers, CME offers a process known as combined cash flow (“CCF”) that allows excess collateral in the form of cash to be swept from a firm’s initial margin account to meet variation calls. For example, if a firm were to have a $1 million USD variation call at the intraday settlement cycle and had $1 million in excess collateral in the form of USD cash those funds could be used to meet the variation call automatically. This eliminates the need for CME to issue a variation margin call to the firm.
Because the DFP Guarantor is required to meet any obligation to CME that a DFP fails to meet, the DFP Guarantor will have full authority to impose risk controls on the DFP’s activity. These controls include the imposition of Globex & OTC Credit Controls, requiring additional initial margin be posted to CME, and determining acceptable collateral within the eligible asset types accepted by CME.
DFP Guarantors will receive the same reports that they do for their customers with minor modifications to certain reports related to guaranty fund requirements and margin. For example, CME Group will provide to each DFP and its Guarantor with reports including, but not necessarily limited to: Drop Copy services, DFP messages routed to DFP Guarantors (Real-time), Trade execution reports, Order entry acknowledgements, Initial Margin report (ITD and EOD), Variation Margin report (ITD and EOD), Guaranty Fund reporting inclusive of DFP GF impact (Monthly), Trade registers (ITD and EOD) and Asset Inventory Trial Balance (ITD and EOD).
DFP Guarantors are responsible for meeting all obligations of the DFP in the event the DFP defaults. If a DFP fails to perform on their obligations, the DFP Guarantor would be required to meet the outstanding shortfall.
There are two potential options following the default of a DFP:
Yes, a DFP may replace its Guarantor at any time without cause without limitation by the proposed rules. The ability to do so, however, may be restricted by the commercial terms agreed upon between the DFP and its Guarantor. Instances in which a DFP seeks to replace its Guarantor will be treated as a new application for DFP membership.
If the DFP Guarantor defaults or is suspended, the CME retains the ability to determine next steps, however the DFP may express one of the following preferences:
The DFP has 24 hours to declare its intention to CME. If the DFP chooses option 1, 2, or 3, they will need to have completed the process no later than the last settlement cycle of the first business day following the declaration.
In the case that the DFP Guarantor chooses to withdraw from its status as DFP Guarantor for one or more DFPs, the withdrawal is effective upon the earlier of:
CME shall ensure that the guaranty funds for Base and IRS are adequately sized to address any risks presented by the DFP account structure consistent with regulatory requirements.
CME will incorporate the shortfalls of the 2 largest DFPs per Clearing Member when sizing the Base Guaranty Fund. Any additional DFP related Guaranty Fund increase will be allocated pro-rata among the Clearing Members who serve as DFP Guarantors, however in the event of any Clearing Member default the loss is mutualized in the same manner as the rest of the Guaranty Fund. Those Clearing Members not participating in the DFP program will not be allocated any portion of the DFP related increase to the Guaranty Fund.
Currently, where an IRS Clearing Member clears customer business, their guaranty fund stress testing shortfall is calculated to include the potential losses of their two largest customers in addition to the potential losses of their house account. With the introduction of the DFP model, the DFP Guarantor’s shortfall will be calculated to include the two largest accounts, including customer accounts and DFPs. This is consistent with the current IRS guaranty fund sizing methodology, as customer accounts are already separately accounted for under the LSOC structure (unlike the customer omnibus structure employed in the Base Guaranty Fund).
No. As long as the DFP Guarantor is meeting the requirements set forth in the CME rulebook there is not a limit on the number of DFPs a DFP Guarantor can guarantee.
Clearing members and participants who wish to utilize the DFP program, whether as Guarantor or DFP, respectively, should contact CME to initiate the application process.
Concentration margin will be calculated based on the DFP Guarantor’s activity, reflecting its house account and DFP accounts. CME will charge DFPs concentration margin, provided the account meets the same concentration thresholds that are used for house and client accounts.
Sell side and buy side market participants have expressed interest in the benefits of individual segregation. The program was designed to meet the needs of market participants wishing to eliminate fellow customer risk or those that cannot be mutualized with guaranty fund or assessment obligations due to regulatory requirements.
Currently, DFPs will only be accepted for the purpose of clearing trades for its own account; the account may not contain positions of other entities, affiliates or otherwise. For example, the DFP entity must be the beneficial owner of all positions in the account.
The primary benefit achieved by the DFP solution is individual segregation and elimination of fellow customer risk. Although the DFP program was not designed to address significant capital constraints associated with regulations such as the leverage ratio, there are some capital benefits to the Guarantor associated with the program due to the reduction in capital requirement from 8% to 4% of the DFP’s margin requirements. Additionally, as DFP is required to meet obligations for initial margin and variation margin directly with CME, to the extent the DFP uses cash to meet their initial margin requirement, the cash should not be on the balance sheet of the DFP Guarantor.
DFP Guarantors also has the option to offer additional services to the DFP such as collateral services or facilities management services through commercial arrangements that may be reflected in the Reimbursement Agreement, or otherwise.
CME will apply its collateral limits on an aggregated basis across all activities of the Guarantor, inclusive of the FCM’s house, customer, and DFPs’ collateral on deposit. DFP Guarantors have the ability to instruct CME to place more restrictive collateral limits on the DFP as they deem appropriate to avoid impacts to their overall collateral limits.
A DFP may grant a subordinate security interest to its Guarantor. Please see Rule 900.C.7 for additional information.
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