Bilateral Compression represents a financial optimization technique where two counterparties mutually agree to offset or reduce their outstanding, offsetting obligations. This process systematically decreases the gross notional exposure and the number of individual trades between them without altering their net financial position. Within crypto markets, it addresses the operational overhead and capital requirements associated with numerous derivative positions.
Mechanism
Operationally, bilateral compression involves identifying matching or opposing positions across two parties’ portfolios. A dedicated system or smart contract analyzes these positions to calculate the maximum possible reduction in gross exposure. New, smaller positions are then created or existing ones are adjusted, effectively nullifying the original, larger offsetting trades. This mechanism typically applies to over-the-counter (OTC) derivatives where direct bilateral relationships exist.
Methodology
The strategic intent behind bilateral compression is to reduce capital consumption, decrease operational costs related to trade processing, and mitigate systemic risk by reducing the volume of outstanding contracts. By decreasing gross exposure, it lowers the capital required for margin and regulatory compliance. It serves as a post-trade efficiency protocol, enhancing the structural integrity and resource allocation within institutional crypto trading environments, particularly for derivatives.
Bilateral compression nets offsetting trades between two parties, while multilateral compression uses a central service to net trades across a network for greater efficiency.
Bilateral compression nets offsetting trades between two parties; multilateral compression uses a network to find and eliminate complex chains of exposure.
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