Management of Sovereign Credit Risk for RepoClear Service

Dear RepoClear Member,

LCH.Clearnet Ltd is pleased to announce the formalisation of our Risk Management Policy relating to a sovereign credit event, such as a sovereign downgrade or national government debt restructuring.

This formalisation of our approach is the result of an intensive consultation with the RepoClear Risk Working Group (RWG) and the Fixed Income Product Advisory Group (PAG), with proposals subsequently approved by LCH.Clearnet Ltd's Risk Committee and Board.

The framework intends to cover three main areas: ‘jump-to-default’; market liquidity; and ‘wrong-way’ risk where the clearing member and sovereign issuer are highly correlated:

• LCH.Clearnet Ltd monitors the yield spreads between 10-year bonds from each sovereign issuer and benchmark 10-year AAA government bonds.  We would generally consider a spread of 450 basis points over the 10-year AAA benchmark to be indicative of additional sovereign risk and LCH.Clearnet Ltd may materially increase the margin required for positions in that issuer.   As a guide, materially would likely mean an increase in the order of 15% of position size, with further material increases in margin charged as the spread deteriorates further. We will also consider whether additional margin is required from indicators in CDS prices or Market Implied Rating data.

• Where a sovereign issuer is downgraded to sub-investment grade by a major rating agency we would generally expect market liquidity to be significantly impacted and may seek to apply additional margin for positions in that issuer.

• If a Clearing Member and sovereign issuer subject to increased ‘jump-to-default’ risk are highly correlated (‘wrong-way’ risk) we would also seek additional margin.

When the above criteria apply to an issuer that is actively cleared on RepoClear, the rate of additional margin will be circulated to members in advance and kept under constant review.

This framework is intended to give greater transparency to Clearing Members on when LCH.Clearnet Ltd would react to increased sovereign credit risk. It should be noted, however, that LCH.Clearnet Ltd reserves the right to continue to use its discretion in all circumstances.

Please do not hesitate to contact LCH.Clearnet Ltd if you require any further details.