US stock clearinghouse’s broader failures exposed by GameStop volatility probe

A congressional investigation of the GameStop trading frenzy of early 2021 found shortcomings by a US stock-trading clearinghouse that go beyond last year’s episode.

A Depository Trust & Clearing Corp. unit, The National Securities Clearing Corp., inadequately tracks the capital and liquidity of riskier brokerages, and fails to sufficiently convey what they need to do to improve rule compliance, according to a House Financial Services Committee report.

The clearinghouse also specifies only vague collateral requirements, particularly its policy for waiving these requirements, and almost always grants the passes during acute market volatility, the report said.
Much of the 138-page report last week dealt with Robinhood, the free brokerage app that drew much of the trading in GameStop and other meme stocks hyped on social media.

During the height of meme-stock volatility on Jan. 28, 2021, NSCC granted across-the-board waivers of all $9.7 billion of collateral deposit requirements that were supposed to kick in when firms were deemed undercapitalized. Robinhood and five other firms got waivers that day.

The waivers saved Robinhood from defaulting on its collateral obligations. NSCC never told Robinhood why it was getting a pass.

NSCC executives told the House panel that the waivers stemmed from concerns that collateral charges could have caused systemic risk. These charges could have affected the clearinghouse if it had to stop clearing trades for some firms and liquidate their inventory, the executives said.

Pre-GameStop

Even before the wild GameStop trading, the NSCC granted waivers for tens of billions in collateral requirements, called Excess Capital Premium Charges, during periods of volatility in March, May, June and July 2020. In all, eight firms got waivers from January 2019 to February 2021.

The collective result of NSCC shortcomings has been confusion and uncertainty among brokerages about the clearinghouse’s collateral policies, the report said. Many firms don’t know how the collateral requirements are calculated.

Of greater worry to the House committee is that, as a result of the clearinghouse’s prolific issuance of waivers, many firms fail to take seriously the collateral charge. The charge is intended to deter firms from letting capital fall below their margin obligations.

“The apparent repeated failure of Excess Capital Premium charges from deterring such firms from accumulating excessive risk is concerning,” the report said. “There are significant inconsistencies in how individual NSCC member firms approach their collateral planning processes.”

Capital, liquidity

The clearinghouse has a program — called Enhanced Surveillance — to subject firms with capital and liquidity issues to heightened tracking. However, the report said, “The NSCC’s ongoing surveillance proved insufficient to identify potential liquidity constraints at certain firms, including Robinhood.”

The report added: "Those elements of Enhanced Surveillance review that focus on liquidity and capitalization may not be sufficiently robust."

In addition, firms aren't notified when they are placed on this list, which "may impede effective oversight of these members or at least misses an opportunity to convey the need to adopt remedial measures to such firms," the report said.

No explicit plans

Most firms interviewed by the House committee don’t have explicit plans to change how they will meet collateral requirements or adopt trading restrictions during extreme market volatility. Experts told the panel that they expect these periods of acute volatility to occur more often in the future.

The committee called for the NSCC to modernize its oversight of firms and detail written collateral waiver policies. The clearinghouse also should work with the US Securities and Exchange Commission and Congress on forming an emergency backstop funding facility for brokerages.

DTCC said it “shares the Committee’s commitment to protecting market stability and ensuring the integrity of the financial system. We appreciate the Committee’s efforts to conduct a thorough review of the meme stock event, and we are evaluating the findings of their report. We remain committed to working with all our stakeholders to continue mitigating risk in the markets and safeguarding the investing public.”