Professional Clearing Member
Also written PCM · Professional Clearing Member (PCM)
A clearing member — typically a bank or custodian — who clears and settles trades for other trading members and institutional clients but is not itself a trading member of the exchange.
In plain language
Trading and clearing are two different businesses that happen to sit next to each other.
Trading is finding the order and executing it. Clearing is standing behind the settlement: computing the obligations, posting the collateral, and being the party the clearing corporation holds responsible if the money does not arrive. The second business needs a large balance sheet and a custody operation. The first does not.
A Professional Clearing Member does only the second. It clears the trades of its associate trading members and of institutional clients, and it is not a trading member of the exchange at all — it places no orders of its own. Typically it is a bank or a custodian, which is exactly the kind of institution that already has the capital and the settlement machinery.
That lets a broker with a good trading franchise and a small balance sheet stay in business: he executes, a PCM clears for him.
How it works
The workbook sets out four membership categories, and the examinable skill is telling them apart:
| Member | Trades? | Clears own trades? | Clears other TMs' trades? |
|---|---|---|---|
| Trading member (TM) | Yes | No — clears through someone else | No |
| Self-clearing member (SCM) | Yes | Yes, own and clients' | No |
| Trading-cum-clearing member (TCM) | Yes | Yes | Yes, and custodial participants |
| Professional clearing member (PCM) | No | n/a | Yes, and custodial participants |
The two rows that clear for others — TCM and PCM — are both required to bring in additional security deposits in respect of every trading member whose trades they undertake to clear and settle. That is the price of taking on somebody else's settlement risk.
A PCM's duties are the clearing member's duties: computing the obligations of all his trading members, performing the actual settlement, and running risk management — setting position limits against upfront deposits and margins for each trading member, and monitoring positions continuously.
Note where the client sits. A participant is a client of a trading member, and clients may trade through several trading members but settle through a single clearing member.
A worked example
A custodian bank registers as a Professional Clearing Member and takes on the clearing of four trading members.
Its entry cost with the clearing corporation:
Net worth requirement Rs 300 lakh (Rs 3 crore)
Deposit with the clearing corporation Rs 50 lakh
Additional deposit, 4 TMs × Rs 10 lakh Rs 40 lakh
───────────
Total deposit with the clearing corporation Rs 90 lakh
It has also placed additional security deposits in respect of each of those four trading members, and it will place more for the fifth.
What it has bought. Suppose those four trading members and their institutional clients carry, between them, 6,000 long and 2,000 short Nifty contracts at the end of a day. The PCM is the party the clearing corporation looks to for the margin on all 8,000, and for the mark-to-market on all of them every morning — despite having placed not one order.
Now contrast the economics. A self-clearing member with the same Rs 100 lakh net worth clears only what he himself trades, and can clear nothing for anybody else. A trading-cum-clearing member does both jobs. The PCM is the only one of the four that clears for others while executing nothing, which is precisely why a bank can do it and a broker cannot.
Why NISM asks about it
Chapter 6, section 6.1, lists the entities involved in trading futures and options — trading member, trading-cum-clearing member, professional clearing member, self-clearing member, participants and authorised persons. Chapter 7, section 7.1, repeats the three clearing-member types and attaches the eligibility norms. This is pure recall, and it is asked as a "which of these is not a trading member of the exchange?" or "who can clear trades of other trading members?" question. The answer to the first is the PCM; to the second, the PCM and the trading-cum-clearing member.
Common exam traps
- A PCM is not a trading member. This is its defining feature and the single most examined point. It clears; it does not trade.
- A self-clearing member cannot clear for other trading members — only his own proprietary and client trades. Do not confuse SCM with PCM; both are clearing members, and only one of them serves others.
- A trading-cum-clearing member does everything a PCM does, plus trades. So "clears for other TMs" alone does not identify a PCM.
- Additional security deposits are required per trading member cleared, for both the TCM and the PCM.
- A client may trade through several trading members but settles through one clearing member. The reverse phrasing is a common distractor.
- Banks and custodians become PCMs because of capital and settlement infrastructure, not because of any regulatory reservation of the role to them.
Where this is taught
- Series VIII · Chapter 6: Trading Mechanismintroduced here
- Series XVI · Chapter 6: Trading Mechanismintroduced here
- Series I · Chapter 7: Clearing, Settlement and Risk Management in ETCDintroduced here
- Series IV · Chapter 7: Clearing, Settlement and Risk Management of IRDintroduced here
- Series VII · Chapter 2: Market Participants in the Securities Marketintroduced here
- Series XXIII · Chapter 2: Social Stock Exchange: Introduction, Funding Structures and Instrumentsintroduced here
- Series VIII · Chapter 7: Clearing, Settlement and Risk Management
Related terms
- Clearing corporationThe entity that steps between every buyer and seller in the derivatives segment by novation, becoming the counterparty to both sides and guaranteeing that the trade settles.
- Trading memberA member of a stock exchange who trades on behalf of clients or on his own account, under a trading member ID shared by all his registered users — and who must clear through a clearing member.
- Self-clearing memberA trading member who is also a clearing member, but may clear and settle only his own proprietary trades and his own clients' trades — never the trades of other trading members.
- Trading cum clearing memberA clearing member who is also a trading member of the exchange, and may clear and settle its own trades, its clients' trades, and the trades of other trading members and custodial participants.
- Custodial participantA client allowed to trade through several trading members while clearing and settling through a single clearing member, identified by a unique CP code; its CM must confirm the trades.
- InteroperabilityA clearing member choosing one clearing corporation to clear and settle everything it trades, across all exchanges, instead of being tied to a separate clearing corporation per exchange.