What Is a Central Counterparty Clearing House (CCP)?
A central counterparty clearing house (CCP) is an entity that helps facilitate trading in various European derivatives and equities markets. Typically operated by the major banks in each country, CCPs strive to introduce efficiency and stability into various financial markets. It reduces counterparty, operational, settlement, market, legal, and default risk for traders.
Understanding a Central Counterparty Clearing House (CCP)
Central counterparty clearing houses (CCPs) perform two primary functions as the intermediary in a transaction: clearing and settlement. As counterparties to the buyers and the sellers, CCPs guarantee the terms of a trade—even if one party defaults on the agreement. CCPs bear the lion's share of the buyers' and sellers' credit risk when clearing and settling market transactions.
The CCP collects enough money from each buyer and seller to cover potential losses incurred by failing to follow through on an agreement. In such cases, the CCP replaces the trade at the current market price. Monetary requirements are based on each trader’s exposure and open obligations.
Key Takeaways
- A central counterparty clearing house (CCP) is an organization, usually operated by a major bank, that exists in European countries to help facilitate derivatives and equities trading.
- Central counterparty clearing houses (CCPs) perform two primary functions as the intermediary in a transaction: clearing and settlement.
- A CCP acts as a counterparty to both sellers and buyers, collecting money from each, which allows it to guarantee the terms of a trade.
Functions of a Central Counterparty Clearing House (CCP)
As a means of privacy protection, CCPs shield the associated traders’ identities from one another. CCPs also protects trading firms against default from buyers and sellers who are matched by an electronic order book and whose creditworthiness is unknown. Furthermore, CCPs reduce the number of transactions that are being settled. This helps smooth operations while reducing the value of the obligations, which helps money move more efficiently among traders.
In the U.S., the equivalent of a CCP is known as a derivatives clearing organization (DCO) or a derivatives clearinghouse and is regulated by the Commodity Futures Trading Commission (CFTC).
Moody’s Rating Methods for Central Counterparty Clearing Houses
In January 2016, Moody’s Investors Service made headlines by revealing its new methodology for rating CCPs worldwide. In its Clearing Counterparty Rating (CCR) report, Moody’s evaluates how a CCP may meet its clearing and settlement obligations in an efficient manner, and how much money will likely be lost if a trader defaults on an obligation. The CCR report factors in the following considerations:
- A CCP’s management capabilities for obligation defaults and related protections
- A CCP's business and financial basics
- A CCP's operating environment
- A CCP's quantitative measurements and qualitative issues, which Moody’s uses when determining a given CCP’s creditworthiness
Blockchain Technology and CCPs
Blockchain technology, which is described as an incorruptible digital ledger of economic transactions that can be programmed to record financial transactions, arguably represents a new frontier for CCPs. In November 2015, clearinghouses from several nations joined forces to create a think tank known as the Post Trade Distributed Ledger Group, which studies how blockchain technology can affect the way in which security trades are cleared, settled, and recorded. The Group, which in 2018 began collaborating with the Global Blockchain Business Council, now includes around 40 financial institutions all around the world.
The PTDL Group believes new technology can reduce risk and margin requirements, save on operational costs, increase settlement cycle efficiency, and facilitate greater regulatory oversight—both before and after trading. And because this group’s members represent various parts of the securities settlement process, they comprehensively understand how the blockchain technology can aid the settlement, clearing, and reporting processes.
FAQs
Central counterparty clearing houses (CCPs) perform two primary functions as the intermediary in a transaction: clearing and settlement. A CCP acts as a counterparty to both sellers and buyers, collecting money from each, which allows it to guarantee the terms of a trade.
What is a CCP in trading? ›
A central clearing counterparty (CCP), also referred to as a central counterparty, is a financial market infrastructure organization that takes on counterparty credit risk between parties to a transaction and provides clearing and settlement services for trades in foreign exchange, securities, options, and derivative ...
What is the difference between a CCP and a clearing house? ›
Also known as a central clearing counterparty or CCP. A central body through which derivatives and securities trading takes place. The clearing house monitors transactions and provides a system for financial settlement.
At what stage does a clearing house become the central counterparty to a trade? ›
A clearing house acts as a central counterparty when it interposes itself as legal counterparty to both sides of transactions in a market. Contracts are entered into bilaterally and then transferred to the clearing house by novation.
What is a trading clearing house? ›
A clearinghouse is a designated intermediary between a buyer and seller in a financial market. The clearinghouse validates and finalizes the transaction, ensuring that both the buyer and the seller honor their contractual obligations.
What is the CCP in simple terms? ›
The Chinese Communist Party (CCP), officially the Communist Party of China (CPC), is the founding and sole ruling party of the People's Republic of China (PRC).
How does CCP work? ›
Understanding a Central Counterparty Clearing House (CCP)
The CCP collects enough money from each buyer and seller to cover potential losses incurred by failing to follow through on an agreement. In such cases, the CCP replaces the trade at the current market price.
What are the benefits of CCP clearing? ›
Central clearing directly reduces interconnectedness, thus protecting market participants in the event of default. CCPs act as risk managers, transparently keeping collateral from the original trading counterparties to secure the trades, and reduce risk exposure via multilateral netting.
What is an example of a clearinghouse? ›
Clearing House Examples
There are two major clearing houses in the United States: The New York Stock Exchange (NYSE) and the NASDAQ. The NYSE, for example, facilitates the trading of stocks, bonds, mutual funds, exchange-traded funds (ETFs) and derivatives.
What is the difference between a CSD and a CCP? ›
CSD services are traditional post-trade services, which mainly involve settlement, legal transfer of ownership and custody. CCP services have a strong association with individual trades. This is why CCP services, which focus on trade and risk management should remain independent of the traditional post-trade services.
The main functions performed by the central counterparty clearing house or CCP are clearing and settlement. It acts as a counterparty for both buyers and sellers acting as an intermediary in their transactions.
Are stock exchanges clearing houses? ›
Exchanges are the venues where transactions take place, clearing houses step in between the parties to a transaction and each party settles with the clearing house, and brokers will execute transactions on behalf of clients and also bring parties together in the OTC markets.
How does a clearing house make money? ›
To earn a clearing fee, a clearing house acts as a third-party to a trade. From the buyer, the clearing house receives cash, and from the seller, it receives securities or futures contracts. It then manages the exchange, thereby collecting a clearing fee for doing so.
What is the purpose of the clearing house? ›
A clearing house serves as a third-party mediator between a buyer and seller engaged in any financial transaction. Although its specific activities will vary depending on the type of transaction involved, generally the clearing house's main duty is to make sure the transaction runs according to plan.
Can a broker be a clearing house? ›
It's possible for an IBD to become a self-clearing firm, where brokers are able to settle their own trades, as well as complete the clearing process internally.
What does CCP stand for in supply chain? ›
Identifying the CCPs
This is the time to identify and define the Critical Control Points over the course of the supply chain. It's essential to keep in mind that CCPs—when defined incorrectly or inadequately—may lead to illness or harm. Examples of CCPs include storage, transportation, and distribution.
What is the CCP defined as? ›
A critical control point is defined as a step at which control can be applied and is essential to prevent or eliminate a food safety hazard or reduce it to an acceptable level.
What is a CCP in money? ›
Central counterparty clearing house (CCP) is operated by banks in each country and helps to facilitate the trading. Central counterparty clearing houses mainly work towards establishing efficiency and stability in the financial markets.
What does CCP Finance stand for? ›
Central counterparty clearing houses (CCPs) play an important role in efficiently reallocating counterparty credit risks and liquidity risks in financial markets.
