Better late than never. After a decade of dominance in derivatives clearing by US banks, an EU bank is emerging as a serious competitor to its rivals across the pond.
The big five US banks have maintained an iron grip on the market for the past decade, while Europe’s wounded banks struggled to recover from the self-inflicted harm of the eurozone crisis. But despite jumping into the arena later than its US competitors, BNP Paribas is catching up fast.
The bank claims it “regularly” ranks as the number one clearing broker at European central counterparties on a principal-to-principal basis, the leading clearing model for the region. This doesn’t count volumes cleared via the agency model used by US megabanks – but sources of all stripes, including competitors, concede that the bank has done an impressive job in catching up regardless.
After a period of consolidating its position as Europe’s clearing bank of choice for swaps and futures, it now has designs on the home turf of its US competitors.
“We see significant upside in the Americas,” says Kieron Smith, deputy global head of prime solutions and financing at BNP Paribas, and head of the derivatives execution and clearing business. “It’s obviously the biggest market. We feel we’ve got the product, the personnel and the talent required to be able to do it.”
BNP made a statement to this effect when it struck a deal with troubled rival Credit Suisse in November, with the Swiss bank agreeing to refer clients to BNP as it exits the clearing business following huge losses on the default of Archegos. Credit Suisse was a sizeable player in the US, with $3.7 billion and $7 billion in required segregated assets for F&O and swaps, respectively, in November of last year, according to data from the Commodity Futures Trading Commission, after a 40% decline from earlier in the year.
While other banks have successfully tempted clients away from Credit Suisse in the intervening time, BNP hopes to take a large chunk of the business’s clients and their margin. The French bank plans to use this as a beachhead to grow market share in the region.
We see significant upside in the Americas. It’s obviously the biggest market. We feel we’ve got the product, the personnel and the talent required
Kieron Smith, BNP Paribas
This comes after BNP has successfully taken advantage of a growing appetite for diversification away from US banks, a theme that was intensified by Brexit. The bank has earned plaudits from the buy side for a multi-year investment in its technology platform and its client service, and for being a steady partner during market volatility.
Belying its furious appetite for growth is a cautious approach to counterparty risk, and the unit’s overall capital consumption. Keen to avoid the missteps of its peers, the bank involves the risk function early in new deals with potential clients, instructing sales teams to adhere rigorously to a risk-based formula which spits out standardised terms for clients.
A key plank of BNP’s strategy is a strong execution business which sits alongside the clearing division. This gives the bank the confidence to clear certain products at a scale that rivals are unwilling to do, in the sureness it could trade out of its exposures in a default situation.
As a large commodity clearer, for instance, the bank managed enormous changes in energy prices this year, as natural gas prices hit all-time highs, allowing even its newer clients among the major energy utilities enough leeway to trade their way through the storm in the final quarter of the year.
“It’s becoming more and more complicated to clear significant positions in the market you don’t trade yourself,” says Gaspard Bonin, deputy head of derivatives execution and clearing.
“As we have strong ambitions to be a market-maker across asset classes, we can rely on deep expertise of different markets whenever a risk materialises in a client’s portfolio.”
All of this comes despite the French lender only committing significant resource to growing its clearing as a business in 2015 – around the time many European peers were rapidly retrenching. Senior management gave the go-ahead for an ambitious five-year growth plan that saw derivatives clearing and execution combined with repo and prime brokerage in the new prime solutions and financing division, under the leadership of Raphaël Masgnaux.
(Left to right): Gaspard Bonin, Stela Gerova, Munisha Le, Giorgio Cali
Some argue that BNP’s pivot came rather late, given that many US banks had read the mood music years earlier and aggressively expanded their clearing operations before mandates kicked in. Smith argues that sometimes you can be a “little too early” – perhaps alluding to the EU’s repeated delays and misfires on its own clearing mandates, which are still patchier than those of the US.
“You invest a lot of money and when you really need to use it wisely, you’ve already spent it and can’t adapt to the new market requirements,” he says.
Instead, the investment was built on a conviction that the market was increasingly transitioning from bilateral to the cleared OTC and listed business – a process the bank has worked with major CCPs to help facilitate. It was also designed to capitalise on a change of mood: as clearing mandates began to bite, many large buy-side firms were explicitly opting to hand more of their clearing business to EU banks – with lucrative custody and execution mandates up for grabs too.
Brexit supercharged this dynamic. As BNP’s rivals haven’t failed to point out, many big buy-side firms have been pressured by regulators to move more of their swaps clearing business to Europe. The large universal US banks quickly set up large Paris and Frankfurt operations to demonstrate their commitment to the continent – but many opted to give BNP a chance.
Bonin acknowledges the bank was well placed to benefit from the “first order” effects of Brexit. The advent of SA–CCR, a new standardised method of measuring counterparty credit risk, has also been a boon for BNP, as the bank has been overall better off in terms of capital impact compared to the previous current exposure method.
But even allowing for increased opportunities for European firms, he argues it was only BNP’s commitment to the clearing business that allowed it to capitalise where others failed.
“While everyone was spending time trying to figure out their Brexit strategy, how to set up legal entities and the like, we were spending all of our time and money on actual improvements, listening to client requirements and helping our platform evolve to serve clients.”
Risk matrix
But the bank hasn’t stopped there. The next stage of its ambition to become a fully global competitor is visible in the November referral agreement with Credit Suisse.
Bonin makes clear that BNP’s robust risk policies will apply in full to the entire membership of new clients.
“It’s a referral agreement,” he says. “It doesn’t mean we will commit to onboarding Credit Suisse clients on Credit Suisse terms. We will always onboard BNP clients with BNP terms and under the BNP risk process. The focus on risk means our risk management teams are involved in the process early, pre-sales, so there are no surprises on our capacity and terms down the line.”
BNP will apply the same rules to the Swiss lender’s clients as it does to new mandates: its sales teams must offer terms to clients based on a matrix, which considers the risk profile of a customer, the sorts of assets they will be trading and the current and expected credit rating of the customer. Only once the matrix has been consulted, and the risk team has surveyed the potential client, can a deal be offered.
“It means we can have an educated conversation with a customer early on, before truly engaging with them,” says Giorgio Cali, head of derivatives execution and clearing institutional sales for Europe, the Middle East and Africa (EMEA) at the bank.
With a few exceptions, the bank will also refuse any “orphan” clients with which it has no pre-existing business. Corporates are fully covered by this policy, but the bank does make allowances for new funds from asset managers and some hedge funds.
Commodities shift
BNP Paribas’ caution has extended to the commodities space – historically a strength, and a segment it has served for the past 33 years. But over the past decade in particular, the bank has pivoted away from oil majors and towards utilities, as part of broader corporate social responsibility commitments that Bonin says the clearing business takes very seriously.
The switch was hastened by the blow-up of Singaporean oil trader Hin Leong in 2020, with banks that had financed the positions now owed billions. BNP further scaled back its business in commodity financing, but due to its diversification in the sector, it is now one of the leading global clearers for corporates, alongside JP Morgan.
The transition required forward thinking and a clear diversification strategy, says Stela Gerova, deputy global head derivatives execution and head of EMEA corporate clearing sales.
“Some of our competitors have preferred to stick to the old, mainly oil-related, business model, and didn’t diversify into the natural gas, electricity and carbon emissions markets that much,” she says.
BNP Paribas was applauded by clients for its management of this year’s energy market volatility, and for always being available to discuss market conditions and anticipated margin levels. Dutch TTF futures, the European natural gas benchmark, started last year at around €18 ($20) and ended it at just under €70, with wild intraday price swings peaking at €164 at the peak of the market panic.
Natasha MacLennan, chief operating officer at energy giant Centrica’s trading arm, which became a client in 2020, vouches for BNP’s risk management abilities in 2021.
“This year, with unprecedented volatility and increased volumes in European energy markets, they performed brilliantly, which allowed us to operate through complex market conditions without any operational issues,” she says.
