What Is a Clearing Agreement?

A chart showing the movement in price of a commodity.

Clearing agreements mean two broad and very different things: Clearing member trade agreements and bilateral clearing agreements. Clearing member trade agreements are between an investor and a broker and allow the broker to represent the interests of his client and allows the broker to choose among brokers who participate in the agreement. This usually involves options, futures and other derivatives on the mercantile exchanges, but can also include stocks, bonds and securities. The bilateral clearing agreement is a political hot potato not often employed. It creates reciprocal trade agreements between governments for limited periods of time specified by the agreement.

Clearing Member Trade Agreements

The concept behind clearing member trade agreements allows investors to use different investment options through different brokers or brokerage houses, usually to take advantage of the expertise of each broker in particular market sectors. Not a bad investment strategy. However, when an investor enters into a clearing trade agreement, the orders are consolidated through a single broker. Consolidation benefits the investor by cutting down on the time, effort, fees and commissions that must be paid for executing orders.

Bilateral Clearing Agreement

Governments enter bilateral clearing agreements to establish reciprocal trade for a specific amount of a commodity or commodities for a specified and limited period of time. In its early practice, barter was not uncommon--trading, for example, wheat for oil. The practice hasn't worked as well since the end of World War II and is used only rarely, if at all, in the present day primarily because of the disruption it can cause on the free market. As such, bilateral clearing agreements have been condemned by the World Trade Organization.

Popularity

The use of clearing agreements is a widespread practice, particularly for investors who seek diversified portfolios. The practice is so widespread an industry of clearing firms has developed to accommodate the practice. Clearing firms usually offer brokers with expertise in a wide range of investment transactions, particularly bond derivatives and commodities futures contracts. They often also provide banking expertise, making trades and fund transfers possible worldwide between domestic and international banks.

Other Responsibilities

As part of a clearing agreement, clearing firms may be expected to perform the accounting on behalf of the client, settling trade debts and gains through electronic transactions with other traders and investors. Clearing firms may also be expected to oversee automatic withdrawals from or payments to particular investment accounts on a scheduled basis spelled out in the clearing agreement.

Oversight

For clearing agreements, because trading can occur between all markets and the additional services offered by clearing firms, activities must be cleared through the Options Clearing Corporation. The OCC oversees the clearing process conducted on a number of exchanges, under the regulations established by the Securities and Exchange Commission.

References

• Financial Dictionary: Clearing Member Trade Agreement
• Onecle: A Sample Clearing Agreement
• businessdictionary: Definition of a Bilateral Clearing Agreement