Self-Referencing Risk Guarantee Fund Calculation
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Solution Overview
Problem
Current systems for clearing credit default swaps (CDS) lack effective methods to mitigate self-referencing risks, where clearinghouse members have exposure to credit default swaps that reference themselves or their affiliates, leading to potential instability and increased risk.
Innovation Solution
A computer-based system calculates a total guarantee fund requirement for each clearing member firm by determining a base guarantee fund and a self-referencing risk guarantee fund, accounting for potential defaults and self-referencing risks, to ensure adequate risk coverage and stability.
Engineering Contradictions & Design Principles
Engineering Contradiction Analysis
1Ease of operation
If clearing member firms are allowed to have self-referencing positions in CDS, then ease of operation and flexibility are improved, but risk stability deteriorates due to potential conflicts of interest and amplified losses
Solution Approach 1:
The patent extracts self-referencing positions from the general pool of CDS positions and places them in a separate guarantee fund calculation. By isolating these positions, the system calculates their risk contribution separately and adds it to the base guarantee fund, preventing self-referencing risks from being hidden within aggregate calculations while maintaining operational flexibility for firms
Solution Approach 2:
The patent introduces an intermediary mechanism (separate guarantee fund calculation for self-referencing positions) that mediates between the operational flexibility firms desire and the risk stability the clearinghouse must maintain. This intermediary layer allows firms to take self-referencing positions while ensuring adequate capital reserves are held to cover potential losses
2Device complexity
If a single guarantee fund calculation is used for all clearing member firms, then device complexity is reduced, but measurement precision deteriorates because self-referencing risks are not adequately distinguished
Solution Approach 1:
The patent segments the guarantee fund calculation into two distinct parts: a base guarantee fund calculation for non-self-referencing positions and an additional guarantee fund calculation for self-referencing positions. This segmentation maintains relative simplicity by using consistent calculation methodologies while improving measurement precision by treating self-referencing risks separately and explicitly
3Reliability
If adequate guarantee funds are required to cover self-referencing risks, then risk coverage is improved, but the burden on clearing member firms increases
Solution Approach 1:
The patent applies local quality by requiring enhanced guarantee funds only for the specific local case of self-referencing positions, rather than imposing uniform requirements on all positions. Firms with self-referencing positions face additional guarantee fund requirements, while firms without such positions are not burdened by these additional requirements, making the burden targeted and proportional to actual risk
Data Source
AI summary
Computer implemented systems and methods are disclosed that allow for the efficient and rapid determination of guarantee funds for clearing member firms. Disclosed systems and methods account for the exposure of self-referencing risk.