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The European Securities and Markets Authority (ESMA), the EU’s securities markets regulator, has today published the framework for its fourth Stress Test for Central Counterparties (CCPs). ESMA, as required by the European Markets Infrastructure Regulation (EMIR), initiates and coordinates this exercise to assess the resilience and safety of recognised European Union (EU) and Tier 2 Third Country CCPs (TC-CCPs) to adverse market developments and to identify any potential shortcomings.

The 2021 Stress Test addresses credit and concentration risks, and uses improved methodologies, including lessons learned from previous exercises, such as assessing the combination of concentration costs and credit losses when liquidating defaulting portfolios or including an intraday exercise for credit. For the first time, and in line with ESMA’s mandate, the exercise also covers operational risk.

Scope and components of ESMA’s CCP Stress Test

ESMA, in cooperation with National Competent Authorities (NCAs) and the European Systemic Risk Board (ESRB), tests the resilience of recognised EU and Tier 2 TC-CCPs by exposing them to different stress scenarios comprising extreme but plausible market conditions. The new stress test exercise has the following components:

  • Credit Stress: assessing CCPs’ resources ability to absorb losses under a combination of market price shocks and member default scenarios;
  • Concentration risk: assessing the impact of liquidation costs derived from concentrated positions;
  • Reverse Credit Stress: increasing the number of defaulting entities and level of shocks and/or liquidation costs to identify at which point CPPs’ resources are exhausted; and
  • Operational risk: assessing the importance of shared service providers in the clearing industry and interconnections of CCPs.

ESMA will also carry out an additional analysis of CCPs’ resources and participants.

Market Stress Scenarios

The ESRB General Board has approved the new adverse scenario for use in this year’s test. The European Central Bank (ECB), in close collaboration with the ESRB and ESMA, has developed a new narrative and calibrated the adverse scenario for the CCP Stress Test, involving triggering one or more sources of systemic risk to the EU financial system, as identified by the ESRB.

The CCPs will be exposed to stress shocks that are defined for numerous risk factors across all relevant asset classes. The purpose of the stress test is to assess a CCP’s resilience to macro-economic scenarios that can have a global impact.

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