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FRM Part II · FRM Exam Part II · Central Clearing

A risk committee is concerned that central clearing mandates may create new risks even while reducing bilateral counterparty exposure. Which of the following best describes a risk that is concentrated by central clearing?

Central clearing concentrates risk in a few systemically important CCPs, whose failure or operational breakdown could spread through the system, and margin requirements can be procyclical, draining liquidity in stress. It improves transparency and netting, so the other options describe effects that are wrong.

  1. AConcentration of default and operational risk in a few systemically important CCPs, with procyclical margin callsCorrect
  2. BComplete loss of transparency into the size of derivative positions
  3. CHigher bilateral credit exposures among clearing members due to loss of netting
  4. DElimination of liquidity risk as margin is standardised

Explanation

Clearing concentrates risk in a small number of CCPs, which become too-big-to-fail nodes, and margin models can be procyclical, raising liquidity demands in stress. Clearing generally increases transparency and netting, and it creates, not removes, liquidity needs.

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