The regulatory requirements introduced by the global standard setters aimed to improve and ensure CCPs financial resilience at all times. CCPs must maintain pre-funded resources to cover the default of the two biggest clearing members under extreme but plausible extreme scenarios, maintain capital requirements to protect itself against the risk of non-default losses, and apply concentration limits to contain investment and custody losses.
To assess the solvency of their risk management frameworks, CCPs regularly test the key aspects of their default procedures to ensure that all clearing members have appropriate arrangements in place to respond to a default event. These tests include:
- Stress scenarios: Connect regulatory requirements with a comprehensive set of historical and hypothetical scenarios with a significant probability to incur. Different asset classes and products are tested independently, with the relevant risk factors being calibrated accordingly;
- Liquidation testing: Measure the ability of CCPs to absorb settlement and funding flows. These costs include the cost of hedging a defaulting member’s positions and adverse market movements, reducing its value prior to closing out or selling those positions;
- Sensitivity testing: Analyse how the different values of a set of independent variables − the key parameters and assumptions of the initial margin model − are affected at a number of confidence intervals in order to determine its sensitivity to calibration errors;
- Reverse stress testing: Identify the market conditions under which the Default Waterfall framework would provide insufficient coverage, rendering the CCP unviable.