Forced relocation of euro clearing would backfire, says LSE

LONDON (Reuters) - Forcing banks in the European Union to shift euro clearing from the City of London would prompt a backlash among cost-conscious banks, a senior London Stock Exchange official said.

FILE PHOTO: The London Stock Exchange Group offices are seen in the City of London, Britain, December 29, 2017. REUTERS/Toby Melville/File Photo

The EU has long wanted euro clearing, a core part of the City’s offering as a global financial centre, relocated to the bloc to supervise risks directly, stepping up its efforts since Britain voted for Brexit.

But market users are reluctant to make the costly move.

The LSE’s LCH unit clears the bulk of euro-denominated interest rate swaps bought by companies across Europe to hedge against adverse moves in borrowing costs.

“If there is a forced fragmentation, then some impacted firms may react by seeking to re-route trades via different entities,” Daniel Maguire, LCH Group CEO, told Reuters.

“Ultimately it is critical to all participants to have unfettered access to the best liquidity and prices - even more so during volatile markets, such as we saw during March and April.”

EU banks could use their non-EU based units to access the global swaps market to hedge across multiple currencies, or use foreign clearers that have EU access, like CME in the United States.

The Brexit transition period, which has maintained the status quo this year, ends on Dec. 31 and although LCH has been granted continued EU access from January, it is only for 18 months to give banks time to end what Brussels calls “excessive reliance” on UK clearers, and build up the EU’s capital market.

“We are very pleased with the outcome, it’s a step in the right direction,” Maguire said.

EU regulators will now assess if LCH should have permanent access, or if EU banks must switch to a bloc-based clearer.

Maguire said LCH’s market share has hardly budged since Britain voted to leave the EU in 2016, despite increased efforts by Frankfurt rival Eurex to attract a bigger slice of the market.

Of the 46 trillion euros of live, open swaps in euros, around 80% is driven by counterparties outside the EU, Maguire said, meaning they are largely beyond the bloc’s regulatory reach.

U.S. banks are particularly active in euro swap trades that need clearing, and this is likely to increase given how U.S. banks are making more inroads globally than their less profitable EU peers.

“It’s hard to see what will fundamentally change, in terms of the dynamics in clearing, unless there is a mandatory relocation policy, which would cause fragmentation and remove the compelling economic efficiencies for all EU firms,” Maguire said.

Reporting by Huw Jones; Editing by Kirsten Donovan