NEW YORK -- Chase Manhattan Corp. is trying to persuade other banks to from a clearing house that would trade and guarantee swaps and other derivatives.
Chase thinks that by banding together, it and other banks with low credit ratings could compete more effectively in the booming market for currency and interest-rate derivatives.
The company is negotiating with another New York bank and one on the West Coast, its treasurer, Arjun K. Mathrani, said in an interview. He declined to identify the banks or estimate a time frame for setting up the venture.
To get such a venture off the ground, Chase may need to persuade as many as 10 other banks to join up, observers said.
Some other banks with low credit ratings-including Citicorp and Continental Bank Corp. -are taking a different approach. They are setting up wholly owned derivatives units to garner the triple-A debt rating considered essential in that business. That route remains expensive, however, because capital still has to be raised to support the units.
Chase hopes to defray this cost among the partners in its joint venture, Mr. Mathrani said. If the plan falls through, Chase might set up a wholly owned derivatives unit.
Chase's derivatives business ranked fifth in size among U.S. banks at the end of the first quarter. But its BBB-plus senior debt rating from Standard & Poor's Corp. and Baa2 grade from Moody's Investors Service pose problems on its ambitions to build its derivatives business.
Many corporations that use derivatives to hedge business risk prefer to sign contract with higher rated banks such as J.P. Morgan & Co. and Bankers Trust New York Corp.
A clearing house could provide a way for Chase and other participants to sidestep their inferior credit ratings. Clearing houses in other business areas, such as the Chicago Mercantile Exchange, are considered riskless.
In a derivatives clearing house, the participants would total the money they owe each other daily, then settle the net amount owed. Members cover the risk to the clearing house by posting collateral daily, which is called margining.
Members are liable to cover any contract a fellow member cannot satisfy. That unlimited liability minimizes the risks of clearing houses in the eyes of participants and counterparties.
"A clearing house is a structure that helps deal with the issue of credit ratings," said Mr. Mathrani.
Deep Aversion to Risk
"People enter into contracts in order to hedge some kind of risk on their balance sheet or embedded in their business," said Tanya Azarchs, an analyst at Standard & Poor's. "They don't want to undertake additional risk that the bank they arranged the contract with is going under. So they tend to want to deal only with highly rated dealers."
To set up a clearing house, Chase must overcome obstacles. Past attempts at setting up other clearing houses in different business were abandoned when participants became unwilling to stomach the risk that other members may not be able to meet their obligations.
For example, a project to develop a clearing house for foreign-exchange traders fell through when J.P. Morgan pulled out.
"A derivatives clearing house is a laudable idea with plenty of potential benefits," said Ron Reading, a managing vice president with First Manhattan Consulting Group, New York. "But given the experience in trying to develop a foreign-exchange clearing house, the obstacles seem to be daunting."
If the clearing house falls through, Chase may apply for regulatory permission to establish a special-purpose corporation that would handle its derivatives business. Citicorp recently received permission for such a unit. Continental's lead bank has an application pending.
But for Chase, setting up special purpose corporation for derivatives presents sizable financial A special purpose units must be separately capitalized, which could require a couple of hundred million dollars, say industry observers.
"You have to tie up a lot of capital as well as a lot of collateral to set up a special purpose corporation," Mr. Mathrani said.
A clearing house would require less capital but it entails less control by individual banks. "It is a tradeoff," said Mr. Mathrani.