Clearing House

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What is a 'Clearing House'

A clearing house is an intermediary between buyers and sellers of financial instruments. Further, it is an agency or separate corporation of a futures exchange responsible for settling trading accounts, clearing trades, collecting and maintaining margin monies, regulating delivery, and reporting trading data. Clearing houses act as third parties to all futures and options contracts, as buyers to every clearing member seller, and as sellers to every clearing member buyer.

BREAKING DOWN 'Clearing House'

A clearing house takes the opposite position of each side of a trade. When two investors agree to the terms of a financial transaction, such as the purchase or sale of a security, a clearing house acts as the middle man on behalf of both parties. The purpose of a clearing house, therefore, is to improve the efficiency of the markets and add stability to the financial system.

The futures market is most commonly associated with a clearing house, since its financial products are complicated and require a stable intermediary. Each futures exchange has its own clearing house. All members of an exchange are required to clear their trades through the clearing house at the end of each trading session and to deposit with the clearing house a sum of money - based on clearinghouse margin requirements - sufficient to cover the member's debit balance.

A General Example of a Clearing House

For example, if a member broker reports to a clearing house at the end of the day the total purchase of 100,000 bushels of May wheat and total sales of 50,000 bushels of May wheat, he is net long 50,000 bushels of May wheat. Assuming that this is the broker's only position in futures and that the clearing house margin is 6 cents per bushel, this means the broker is required to have $3,000 on deposit with the clearing house. Because all members are required to clear their trades through the clearing house and must maintain sufficient funds to cover their debit balances, the clearing house is responsible to all members for the fulfillment of the contracts.

A Specific Clearing House

There are two major clearing houses in the United States: The New York Stock Exchange (NYSE) and the NASDAQ. The NYSE, for example, facilitates the trading of stocks, bonds, mutual funds, exchange-traded funds (ETFs) and derivatives. It acts as the middle man in an auction market that allows brokers and other investors to buy and sell securities to people by matching the highest bidding price to the lowest selling price. Unlike the NASDAQ, the NYSE has a physical trading floor.