CME acts to curb volatile Treasury futures

Reuters News
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Posted: Jul 25, 2011 10:29 PM
CME acts to curb volatile Treasury futures

By Richard Leong and Jonathan Spicer

NEW YORK (Reuters) - The CME Group has made it more expensive to trade Treasury futures in an effort to curb market swings created by growing fears of a government default.

The latest action to cut back volatility comes after the Chicago firm, which runs the biggest series of regulated contracts on U.S. government debt, on Friday raised the margin requirements on Treasury futures.

An exchange typically raises margin requirements and increases haircuts to discourage excessive risk-taking, in a bid to reduce volatility. Wild market swings tend to discourage trading, which hurts an exchange's revenue.

The exchange said on Monday evening it will also raise the "haircuts" or discounts on the Treasury collateral it will accept at the close of business on Thursday. The last time it made such a change was in December 2007. This means traders and investors will have to post more Treasuries to back their CME futures and options holdings.

The U.S. Treasury market has been fraught with tension in recent weeks as global investors confront the prospect of a U.S. default next month should lawmakers fail to reach a deal on raising the national debt limit.

This follows wild swings in the Treasury bond market over the past month as global investors positioned for a possible Greek default and concerns the U.S. economy was slowing sharply.

U.S. lawmakers were locked in a standoff on Monday over dueling debt plans that offered little prospect for compromise, increasing the threat of a ratings downgrade and default that could sow chaos in global markets.

Evidence of frayed nerves appeared in the bond market earlier on Monday when reports of a suspicious package in Washington sparked a brief and unusually furious bout of Treasuries buying.

The CME routinely adjusts margin requirements on its financial and commodity contracts. It last lowered the required margins on its Treasury products on June 21.

On a historical basis, the latest margin levels are in the middle of the range where margin requirements have been, said John Brady, a futures trader at MF Global securities in Chicago.

"The nature and level of the change here looks to be more in line with the routine increase to keep margins in line with recently realized volatility as opposed to a pre-emptive step to stay ahead of potential volatility as a result of a failure to negotiate a debt ceiling increase," said Robert Tipp, chief investment strategist for Prudential Fixed Income in Newark, New Jersey.

"As per the normal review of market volatility to ensure adequate collateral coverage, CME Clearing will implement the following collateral haircuts," the firm said in a letter to its members.

It also raised haircuts on debt issued by Fannie Mae, Freddie Mac and Federal Home Loan Bank system and mortgage-backed securities guaranteed by the housing mortgage agencies. The creditworthiness of these securities has come under scrutiny since they are backed by the U.S. government.

The CME declined to comment.

"We review haircuts on a monthly basis and change as frequently as (needed)," CME spokesman Michael Shore said in an email to Reuters.

The exchange will impose a 0.5 percent haircut on U.S. Treasury bills as collateral, compared with the current zero percent.

The latest margin changes on Treasury futures cover new trades as well as current positions.

For example, for speculative traders the margin requirement on new 10-year T-note trades will increase to $1,755 per contract at the end of business on Monday from the current $1,485. This is still far below the $3,000-level during the height of the global financial crisis in September 2008.

(Additional reporting by Ellen Freilich and Emily Flitter in New York and Ann Saphir in Chicago; Editing by Gary Hill)