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Simulating liquidity stress in the derivatives market

Marco Bardoscia (), Gerardo Ferrara (), Nicholas Vause () and Michael Yoganayagam ()
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Marco Bardoscia: Bank of England, Postal: Bank of England, Threadneedle Street, London, EC2R 8AH
Michael Yoganayagam: Bank of England, Postal: Bank of England, Threadneedle Street, London, EC2R 8AH

No 838, Bank of England working papers from Bank of England

Abstract: We investigate whether margin calls on derivative counterparties could exceed their available liquid assets and, by preventing immediate payment of the calls, spread such liquidity shortfalls through the market. Using trade repository data on derivative portfolios, we simulate variation margin calls in a stress scenario and compare these with the liquid‑asset buffers of the institutions facing the calls. Where buffers are insufficient we assume institutions borrow additional liquidity to cover the shortfalls, but only at the last moment when payment is due. Such delays can force recipients to borrow more than otherwise, and so liquidity shortfalls can grow in aggregate as they spread through the network. However, we find an aggregate liquidity shortfall equivalent to only a small fraction of average daily cash borrowing in international repo markets. Moreover, we find that only a small part of this aggregate shortfall could be avoided if payments were co‑ordinated centrally.

Keywords: economics (search for similar items in EconPapers)
JEL-codes: C60 G29 (search for similar items in EconPapers)
Pages: 31 pages
Date: 2019-12-20
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Persistent link: https://EconPapers.repec.org/RePEc:boe:boeewp:0838

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