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Foreign exchange: CME spots options opportunity

A way to cope with forward premia risk; Increased reluctance to take on counterparty risk

It is easy to get caught up in the debate about whether or not foreign exchange (FX) will eventually migrate to a central counterparty (CCP) model. But what is perhaps most surprising is that most of the FX traded has remained so resolutely an over-the-counter market. Looking at FX options specifically, it could be argued that the main reason why it remains so predominantly OTC is that the exchanges have failed to deliver the solutions the industry wants.

But as an initiative in the European equity options market shows, there is no reason why FX options cannot be bilaterally traded and then cleared through a CCP. In October 2005, NYSE Liffe, as it is now called, launched its Bclear service for European equity options. Europe’s exchanges had struggled unsuccessfully for years to induce the options market to migrate from the OTC environment where it predominantly traded. The Bclear initiative’s genius was the fact that it was launched in cooperation with the main OTC equity option brokers. As the exchange itself says: "It was designed to offer users the best elements of both the OTC and listed derivatives market, ie, flexibility and privacy, together with the ability to better manage counterparty and operational risk."

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