Nicholas Vause and David Murphy
Following a period of relative calm, many derivative users received large margin calls as financial market volatility spiked amidst the onset of the Covid-19 (Covid) global pandemic in March 2020. This reinvigorated the debate about dampening such ‘procyclicality’ of margin requirements. In a recent paper, we suggest a cost-benefit approach to mitigating margin procyclicality, whereby alternative mitigation strategies would be assessed not only in terms of the reduction in procyclicality they would deliver (the benefit), but also any increase in average margin requirements over the financial cycle (the cost). Strategies with the best trade-offs could then be put into practice. Our procyclicality metrics could also be used to report margin variability to derivative users, assisting them with their liquidity risk management.
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