The Dodd-Frank Act's mandate for central clearing of swap contracts is intended to make the market safer for all participants-a goal SwapClear wholeheartedly supports. Its LSOC (Legally Segregated Operationally Commingled) rule helps to protect your collateral while ensuring that your positions are easily portable in a default.
SwapClear has always gone above and beyond to protect our customers from risk. We have elected to implement the LSOC rule in two forms: the basic version, which meets its minimum requirements, and LSOC with Excess, which offers you additional options and stronger safeguards. Since LCH has long operated under its proprietary version of value- based segregation similar to LSOC, we have considerable experience in this arena.
Under LSOC, we legally segregate your positions and the value of the collateral you post for your initial margin, although it remains part of the collateral pool that your FCM posts with us. That reduces your exposure in a default, since your collateral cannot be used to cover another customer's losses ("removing fellow customer risk"). However, you still benefit from VM netting within the pool, which reduces your costs and initial margin requirements.
Click here for our full LSOC Explained white paper
LSOC with Excess
Under LSOC with Excess, not only is your portfolio and initial margin collateral legally segregated, but you can also choose to deposit additional collateral to prefund your positions with us. You can easily track this collateral, since most FCMs will provide you with daily reports derived from those they must submit to us.
In a bankruptcy, LSOC with Excess can benefit you in several ways, particularly if you have extra collateral on deposit. If an FCM defaults, the extra margin helps us to avoid liquidating your positions-which reduces your exposure to market losses and opportunity costs that might result from liquidation.
Moreover, LSOC with Excess makes it easier for you to "port" your account to another FCM in a bankruptcy; if you have significant excess deposited with us, you would be a more attractive client since that collateral would be immediately available to offset your risk. You may also find it easier to transfer or recover your collateral, since we retain custody of the securities and can document the value attributable to you for a bankruptcy court or trustee.
Further reading on LSOC with excess, download the full pdf