The Benefits of Portfolio Cross-Margining of Swaps and Futures

By Amir Khwaja, Clarus Financial Technology

Originally published on TABB Forum 

Clarus analysis shows that it is clearly worth moving Futures positions that serve to reduce the risk of Swap positions from SPAN margined accounts to Portfolio margined accounts.

We often get asked about Cross-Margining of Swaps and Futures, as well as SPAN margin for Futures. In this article I will introduce the benefits of cross-margining, using a few simple examples and the CME Clearing model. As this is my first article on this topic, I will endeavor to keep it as simple as possible and in future blogs will plan to go into more detail.

First Example: IRS and ED

Let’s create two portfolio accounts: First. an account containing a single 5Y Swap Receiving Fixed on $100m.For a CME Client account, this has an Initial Margin requirement of $2.3 million (as shown below):

Second, an account with EuroDollar Futures short 2000 June 2015 contracts.

Running SPAN margin on this second portfolio shows that the IM is $700,000:

Margined independently, these two accounts have an IM requirement of $2.3 million plus $0.7million, which is $3 million.Now what if we were to move all the ED futures into the Swaps account?

Which shows that:

• The IM is now $1.975 million
• A reduction of $305,000, or 13% of the swap margin
• Or a 34% reduction in total IM (from $3m to $1.975m)

We know this is because the Futures position serves to reduce the risk of the Swap trade. So in this case the client would be better off moving the Futures position from the SPAN margined account to the Portfolio margined IRS account.

Note: Interestingly, from above we see that the “WhatIf” column shows $810,870 as the margin of the Futures position, which can be compared to the $700,000 of SPAN margin for the same Futures position.

Second Example: IRS and Bond Future

Let’s now keep the same IRS portfolio account but introduce a different second account, this time one with 5Y Treasury Note short 1000 March 2015 contracts.

Running SPAN margin on this second portfolio shows that the IM is $800,000:

Margined independently, these two accounts have an IM requirement of $2.3 million plus $0.8 million, which is $3.1 million. However, if we now move all Treasury Futures into the Swaps account, we get the following:

Showing that:

• The IM is now $646,000
• A reduction of $1,634,000, or 72% of the swap margin
• Or a 79% reduction in total IM (from $3.1m to $0.646m)

As before, we know this is because the Futures position serves to reduce the risk of the Swap trade. In this case much more than for the first example, and so the client would be better off moving the Futures position from the SPAN margined account to the Portfolio margined IRS account.

Note: Interestingly, from the above we see that the “WhatIf “column shows $1.846 million as the margin of the Futures position, which can be compared to the $800,000 of SPAN margin for the same Futures position.

Third Example: IRS and ED Futures Strip

Let’s now keep the same IRS portfolio account but introduce a different second account, this time one with a strip of ED Futures, from 1 to 20 (so out to Dec. 2019), with a short 100 contract in each contract deliverable month.

Running SPAN margin on this second portfolio shows that the IM is $1,033,000:

Margined independently, these two accounts have an IM requirement of $2.28 million plus $1.03 million, which is $3.31 million. However, if we now move all ED Futures into the Swaps account, we get the following:

Showing that:

• The IM is now $454,920
• A reduction of $1,850,000, or 80% of the swap margin
• Or an 86% reduction in total IM (from $3.31m to $0.45m)

Again, the client would be better off moving the Futures position from the SPAN margined account to the Portfolio margined IRS account.

With each successive example we have decreased the margin more as a consequence of better hedging the risk of the Swap position.

We could continue further, but I will leave it there for today.

It is clearly worth moving Futures positions that serve to reduce the risk of Swap positions from the SPAN margined account to the Portfolio Margined one.