Clearinghouse Margin Requirements

Abstract

We model the decision problem faced by a profit-maximizing clearinghouse setting fee and margin requirements for heterogeneous traders who may default. We capture the main tradeoffs underpinning the clearinghouse's choices: higher fee and better default protection come at the cost of decreased market volume. We show that the equilibrium margin requirements are determined not only by price volatility, but also crucially depend on market variables including trader fundamentals and funding costs. Our results capture (i) the "term structure" of margins; in particular, that long maturity futures contracts tend to have lower margins, (ii) why margins are often comparatively high relative to fees and daily price movements, and predict (iii) high sensitivity of margins to funding cost. In a model extension, we separate matching and clearing services by introducing an exchange, and analyze the implications of the different market structure on the resulting equilibria.

Keywords: Margin requirements, central clearing, systemic risk

JEL Classification: G21, G28