Clearing Fee: What it is, How it Works, Why it Matters

What Is a Clearing Fee?

A clearing fee is a charge assessed on securities transactions by a clearing house for completing transactions using its own facilities. It is most often associated with the trading of futures and includes all actions from the time a commitment is made to the time a transaction is settled.

Transaction fees often include both a brokerage fee and a clearing fee, but seldom include a delivery fee, since the actual delivery of the underlying asset in a future contract is rare. The actual clearing fee cost can be variable, as it is based on the type and size of the transaction. The fees are passed on to the brokers by the exchange where the transaction was conducted.

How a Clearing Fee Works

To earn a clearing fee, a clearing house acts as a third-party to a trade. From the buyer, the clearing house receives cash, and from the seller, it receives securities or futures contracts. It then manages the exchange, thereby collecting a clearing fee for doing so. In today's automated, high-speed trading world, the need for clearing is often taken for granted, but the existence of the clearing house and its role makes it possible for traders and investors to negate the worry that the party on the other side of their trade will somehow negate the effects of their trade by acting in bad faith.

A clearing fee is a variable cost, as the total amount of the fee may depend on the size of the transaction, the level of service required, or the type of instrument being traded. Investors who make several transactions in a day can generate significant fees. In the case of futures contracts, clearing fees can pile up for investors who make many trades in a single day, since long positions spread the per-contract fee out over a longer period of time.

Why Clearing Fees Are Necessary

Clearing houses act as middlemen in trades to guarantee payment in case either party involved in the trade defaults on the contractual obligations of the trade. The technology, accounting, recordkeeping, assumed counterparty risk, and liquidity is what investors and traders are paying for with their clearing fees. This keeps markets efficient and encourages more participants in the securities markets. Counterparty and pre-settlement risk are often taken for granted because of the role the clearing house plays.

Clearing houses are subject to significant oversight from regulators, such as the Commodity Futures Trading Commission (CFTC). Since the Great Recession in 2007-2009, new regulations have resulted in far more money passing through clearing houses. As such, their failure could lead to a significant market shock. As of the end of 2017, the three major clearing houses passed liquidity stress tests by proving they could maintain enough liquidity to settle obligations in a timely fashion even if their two-largest members (banks and broker-dealers) defaulted.

Who Charges Clearing Fees?

The three largest clearing houses are CME Clearing (a unit of CME Group Inc.), ICE Clear U.S. (a unit of Intercontinental Exchange Inc.) and LCH Ltd. (a unit of London Stock Exchange Group Plc).

Clearing houses can trace their beginnings to around 1636; the financier of Charles I of England, Philip Burlamachi, first proposed them, along with the idea of a central bank.