Margin requirements, or simply margins, is collateral that needs to be deposited by the
holder of a financial instrument as a way to hedge against the credit risk that he/she may
pose to the counterparty handling that contract, usually a broker, a CCP or an exchange. CCPs demand margin requirements in the form of highly liquid collateral, like cash or
sovereign bonds. Given the legal obligation of CCPs to fulfil the performance of every
contract, margin requirements must be liquid, so that the collateral held can be quickly
sold in order to close out open positions of a defaulting counterparty (see Norman, 2011;
Gregory, 2014; Rehlon and Nixon, 2013).
Margin requirements can further be divided into three other categories: initial, maintenance and variation margins. Initial margins refer to the amount of collateral that
is required to open a position, and, as mentioned above, is usually equal to a percentage
of the contract’s value. The maintenance margin requirement is the minimum amount of
collateral that is required to keep the position with a counterparty open. This means that,
normally, the maintenance margin is lower than the initial margin. When the value of the
holder needs to deposit more collateral in order to bring the margins back to at least the
initial margin. This is also called a margin call. Finally, the variation margins are not
collateral as such, but daily payments reflecting the profits and losses of the position and
is calculated on mark-to-market basis. Mark-to-market is a way of valuing assets based
on how much they could be selling for at current market prices. The use of mark-to-
market pricing is highly relevant for the scope of this thesis. As I will argue in Chapter 4,
the EC and ECB’s political imperative for financial market integration has fostered the use of market-based practices, including mark-to-market pricing and margin calls, for
sovereign collateral in repo markets. In turn, this arrangement exposed the sovereign debt
markets of the euro area to destabilising price volatilities in financial markets.
Margin requirements work as follows (see Choudhry, 2002 for a full explanation). Let’s
imagine that an investor purchases a wheat future contract for 5000 bushes at a Chicago-
based exchange through its CCP, where the price for a bush of wheat at current prices is set for $10, so the contract is worth $50.000. On day one, the CCP will demand $4000
dollars in collateral as the initial margin to open the position, whereas the maintenance
margin is set to $1200. As the price of wheat drops to $9.5 per bush on day two, the
contract’s value declines to $47.500, which means that the investor’s margin balance
drops to $1500 ($4000-$2500), which is still above the maintenance margin, but it
incurred a $2500 variation margin payment to the CCP. On day three, the price of a bush
of wheat declines further to $9.4, which brings another $500 losses to the investors, with an equivalent variation margin payment to the CCP and brings the margin balance to
$1000. As the margin balance dropped below the $1200 threshold introduced with the
maintenance margin, the CCP issues a $3000 margin call to the investor in order to bring
the balance back to $4000. Seen through another lens, margining is an accounting
technique that allows for the entity managing the financial contract to maintain the
The use margin requirements are particularly important for the scope of this thesis. As
we shall below, as well as in Chapter 3, the implementation of margin calls tends to have
procyclical effects in times of financial distress; where procyclical is intended as an
amplification of prices fluctuation in financial markets (see Borio et al., 2001). This is
precisely the same dynamic that will be examined in Chapter 5, which assesses the
destabilising impact of LCH.Clearnet’s margin calls during the euro crisis.
Margin requirements are central to the CCPs’ risk-management strategies. The financial
losses incurring from a clearing member’s default are dealt with through a series of
financial buffers, usually referred to as a ‘default waterfall’: 1) the defaulting member’s
initial margin requirements and default fund contribution; 2) a portion of the CCP’s
equity; 3) other members’ contribution to the default fund; 4) other forms of members’
contributions; 5) the CCP’s own capital (see Eurex Clearing, 2017; LCH.Clearnet, 2016).
It is important to note that margin requirements, which are effectively liabilities owed by the CCP to its clearing members, make up almost the entire CCP’s balance sheet. In the
case of LCH.Clearnet, the world’s largest CCPs by clearing volume, this figure was over
99% in 2015, whereas the equity share was only about 0.21% (Cont, 2017: 7).
Simply put, the instruments used by CCPs against the risk of default are mostly made up
of clearing members’ contributions, particularly margin requirements, which again is
important to reiterate are composed by highly liquid assets. Crucially, the prices of the margin requirements are determined solely by the CCP and cannot be contested by the
clearing members (see Kenyon and Green, 2013). This is particularly important insofar
as it helps highlighting the powerful role of CCPs in financial markets. By occupying
both the positions of buyer and the seller of a trading relationship, together with their
power to unilaterally increase or decrease margin requirements, CCPs can exert
2.5CCPs in the aftermath of the 2007-08 financial crisis