After about a year delay, EnergyClear Corp. (ECC) finally is prepared to launch an over-the-counter energy clearinghouse in the second quarter. A separate operating company, which was formed in December 2000 by the Bank of New York, Prebon Yamane and Amerex, will support one of the first industry-sponsored OTC clearinghouses with comparison, netting and settlement of wholesale energy contracts. Initial products will include various electricity and natural gas forward contracts (see Daily GPI, Dec. 4, 2000).

“Recent events in the energy trading and marketing industry highlight the need for a solution to reduce credit exposures and increase financial transparency,” said EnergyClear spokesman Jimmy Wright. “ECC is the solution to many of these issues. It will deliver the benefits of multilateral netting through standardization of products and margining, along with independent mark-to-market valuation.”

Part of the reason for the launch delay, said Wright, was “gaining industry acceptance for the idea and also recognition of the need. I think the Enron debacle has highlighted the need. The industry is now recognizing the need for some institutional integrity and capital efficiencies in the market place. It’s highlighted the need for clearing sooner rather than later.”

Wright said energy companies have been so busy focusing on damage control from Enron and credit issues that they have been unable to move quickly on establishing an OTC clearinghouse. To make EnergyClear operational, industry companies have had to develop standards for mark-to-market methodology for each of the individual products to be offered. They have had to come to agreement on the products to be offered, the duration each product, the margin rates associated with each product and the contract details for each product.

“It required industry consensus and the cooperation of a number of industry participants,” said Wright. He said the companies involved are not ready to announce their participation in EnergyClear. “We’re not ready to release the number of members or who they are at this point.”

However, ECC could face stiff competition from IntercontinentalExchange (ICE) and the New York Mercantile Exchange (Nymex). Nymex already has a Henry Hub swap being cleared on its Access trading system and plans to launch numerous other OTC products soon. Meanwhile, ICE is beta testing its clearing system currently with the London Clearinghouse and its numerous online trading customers. ICE said it expects to be providing clearing services for West Texas Intermediate Crude and Henry Hub natural gas before the end of this month.

“We really don’t look at it as competition with ICE, per se,” said Wright, “because they are not planning on becoming a clearinghouse. We are a derivative clearing organization.” ICE is merely a front end portal, he said. London Clearinghouse could be the real competitor if it offered the same products with similar rates. But Wright noted that London Clearinghouse is limited by “one source of deal flow: ICE.” EnergyClear will clear transactions from any trading platform, he said, adding that the company would welcome discussions on setting up a direct deal-flow mechanism with any trading platform. He wouldn’t comment on whether EnergyClear already is working with other platforms.

“A central clearing counterparty is revolutionary to the OTC energy industry,” he noted. In the past, only clearinghouses affiliated with a price discovery mechanism or an exchange were authorized to clear transactions. That law changed in 2000 with the Commodity Modernization Act. Now there can be clearinghouses providing multilateral clearing independent of a price discovery mechanism. Wright said EnergyClear members still have not decided whether the prices for products cleared would be made public or would remain confidential.

OTC energy contracts currently are negotiated on a principal-to-principal basis, through electronic exchanges or via interdealer brokers over the telephone. Counterparties currently settle their trades under bilateral agreements, under which each party is exposed to the risk that its counterparty will fail to perform. Clearing services will take transactions that already have had their price discovery taken care of and will substitute the clearing provider as the buyer to every seller and the seller to every buyer, reducing credit risk and operational back-office risk and costs while allowing the offset of positions in between the participants in the physical energy markets.

Marketers doing multiple transactions with one another quickly have their credit exposure maxed out and consequently are unable to continue to conduct transactions with a given counterparty. When a clearinghouse steps in and becomes the counterparty to every trade, it reduces the credit exposure to individual participants down to a single counterparty. Once the clearinghouse is substituted as the counterparty, it greatly increases the amount of business marketers can do. In Norway when the NordPool clearing house went operational, the size of the power market quadrupled, Wright said.

Transactions that will be cleared by EnergyClear will be done prior to be cleared either over the phone or on any other B2B trading platform. Companies would conduct business in the same manner, however, after the transactions are completed they would be taken to EnergyClear for clearing services. The bilateral transactions between companies would be broken and the individual companies would then enter into the same positions with the clearinghouse.

As a result, the energy trading business this year could see exponential growth. With the presence of OTC clearing in the market, marketers and traders will have numerous new opportunities to trade and perform risk management.

It requires a large bankroll to assume the role of counterparty in multiple trades. EnergyClear is backed by its energy company members, two major brokers in the OTC foreign exchange, money, derivatives, securities, energy and emerging markets businesses and the oldest bank in the United States. Although a launch date has been targeted, opportunities for membership in EnergyClear remain open, Wright said.

EnergyClear will provide a slate of 20-30 natural gas products. “At this point, it’s all monthly forward contracts in physical and financial products.”

EnergyClear is a registered derivatives clearing organization with the Commodity Futures Trading Commission under the Commodity Futures Modernization Act of 2000. For more information, contact Jimmy Wright at (713) 651-5025.

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