SEC Votes For Major Treasury Market Overhaul, Increasing Central Clearing

SEC's new vote mandates more Treasury trades to undergo central clearing, impacting repo markets and hedge funds.

What does SEC's new Treasury clearing rule mean?

The Securities and Exchange Commission (SEC) has taken a significant step to enhance the stability of the $26 trillion Treasury market by voting to expand central clearing in Treasury bond trades.

Expanding Central Clearing In Treasury Trades

On Wednesday, the SEC voted in favor of a proposal that mandates additional Treasury bond trades, estimated at $1 trillion daily, to be cleared through an independent clearing house. This move requires market participants to provide collateral for these positions or limit their borrowing in repo trades. SEC Chair Gary Gensler highlighted that this reform aims to reduce risk in the market, benefiting investors and issuers alike. This decision is part of a broader effort to fortify the Treasury market, which influences global asset pricing, particularly following instabilities like the March 2020 "dash for cash" during the Covid-19 pandemic.

Aligning With Other Markets And Impact On Hedge Funds

The new framework aligns the Treasury market more closely with other financial markets like equities, futures, and swaps, where clearing is a standard practice. A clearing house acts as an intermediary between buyers and sellers to prevent the domino effect of failed trades. The regulation aims to control the growing influence of hedge funds and high-speed traders in Treasury trading, particularly with their increased leverage in recent years. The SEC's broader agenda includes heightened oversight of entities such as hedge funds and proprietary traders.

SEC Chair Gary Gensler
SEC Chair Gary Gensler (Photo: Reuters)

Industry Pushback And Rule Modifications

Despite the initial broader scope in a draft version, the final rule voted on by the SEC covers fewer Treasury trades. It applies mainly to the repo market, where banks and investors engage in short-term borrowing against Treasuries. The cash market, initially targeted for broader clearing requirements, saw a reduction in scope following industry feedback, particularly from hedge funds and leveraged traders. Nonetheless, the rule is estimated to bring an additional $1 trillion of daily repo and reverse repo trades into the clearing framework.

Concerns And Implementation Timeline

The concentration of risks in a single clearing institution has raised concerns among experts about potential systemic risks. Vanderbilt University's Yesha Yadav expressed serious doubts about managing such a systemic and significant market player. To address market worries about increased margin requirements during peak market stress, the SEC has modified some aspects of its rules. The implementation of these changes is scheduled for December 2025 for cash trades and June 2026 for repo trades.

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