FCMs stunned by $1.75 billion client buffer at Credit Suisse

Swiss bank is tying up too much capital in immature business, rivals claim, after new NFA data shows it to be an outlier

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Banks in the over-the-counter derivatives clearing business have been shocked by data showing Credit Suisse is holding $1.75 billion of its own funds against $3.94 billion of client swaps collateral in its US futures commission merchant (FCM), Credit Suisse Securities USA. The 44% ratio makes the bank the most conservative among US FCMs, but rivals say it would put the profitability of most OTC clearing businesses under huge pressure.

"I think it surprised a lot of people - I know I was surprised - to see the Credit Suisse buffer so high. The information has been out there since August, so maybe others have been looking at it for a while, but we first noticed it a couple of weeks ago. It goes against the grain of everything else that is happening in this business," says a New York-based source at one FCM. His counterpart at one US client clearer says the ratio is "mind-blowing".

Credit Suisse declined to comment.

FCMs are required to supplement client assets with enough of their own collateral to cover any possible shortfall - a backstop known as residual, or firm, buffer. But while a large buffer is a good thing for clients, it also has to be funded by the bank, making it a tricky balancing act for a business that remains immature. The National Futures Association (NFA) has long published data on FCM and client collateral balances in the listed derivatives market and started doing so for OTC clearing on August 30.

As of October 31 - the most recent data available - the NFA puts Credit Suisse second among FCMs by amount of client collateral, with Barclays on $4.80 billion and Citi third on $3.87 billion. But Barclays has $720 million of buffer, while Citi has $430 million, giving them ratios of 15% and 11.1%, respectively. Among other FCMs, the firms that come closest to Credit Suisse are Deutsche Bank and JP Morgan - they have $280 million and $700 million of buffer, respectively, giving them both ratios in the neighbourhood of 27%. Bank of America Merrill Lynch runs its business with a ratio of 17.9%, while Goldman Sachs has 10.5% and Morgan Stanley just 4.2%.

There is no sense locking up $2 billion in capital in a business that is not earning that much

The expectation among FCMs is that ratios will end up stabilising close to those typically seen in the futures market, where a buffer of around 10% is common. For now, the funds being set aside by Credit Suisse are seen by their competitors as a waste of scarce resources - swaps clearing businesses at many firms are under pressure to run as tight a ship as possible, because revenues are still fairly low, while the cost of building infrastructure to handle the start of mandatory clearing in the US and Europe has been high. In addition, there is still a lot of uncertainty about capital requirements for the business, which has been exacerbated by proposed changes to the Basel III leverage ratio.

"Holding $2 billion of buffer is nice and all, but does it keep growing along with the business? When does senior management get involved? There are a lot of people out there who already have huge commitments as a result of this business and they don't seem to have realised how much of a constraint that will be," says the head of OTC clearing at one FCM. He was speaking on the basis of a mid-October version of the NFA data, which showed Credit Suisse with a $1.99 billion buffer and a ratio of 50%.

A lot depends on what the Credit Suisse clearing business is charged by the bank's treasury and how it is investing the buffer funds, notes the New York-based FCM source. If the Credit Suisse FCM is told it can borrow at the overnight indexed swap rate, it could cover those expenses by holding the money on deposit, more or less, he says. "But, given the pressures the business is under, you'd think those sorts of practices would change. You would think someone from the management group would look at these numbers and decide there's no sense deploying that amount of capital - and I think that is a reasonable longer-term outcome. There is no sense locking up $2 billion in capital in a business that is not earning that much," he says.

It's not totally clear how Credit Suisse invests the buffer funds, although the NFA collects some data on this as well. While many FCMs hold all or most of the funds in cash, a few put the majority in US government bonds, including Credit Suisse - 88% is in securities.

For the New York-based FCM source, though, the bottom line is simple: "If they were funding where we're funding, they'd be getting crushed," he says.

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