Q-601.1. The Need to Clear Derivatives

601.1. An exchange is a central financial center where parties can trade standardized contracts, explains Gregory. An exchange performs the following three key functions: product standardization, trading venue, and reporting services. An exchange is different than a clearinghouse, however. An exchange is a trade execution venue, but clearing reduces counterparty risk. With respect to the need for clearing and the reduction in counterparty risk, Gregory reviews the following three definitions for clearing, margining, and netting (although not necessarily in that order):

I. The reconciling and resolving of contracts between counterparties and it occurs between trade execution and settlement

II. This involves the offsetting of contracts, which is useful to reduce the exposure of counterparties and the underlying network to which they are exposed

III. This involves exchange members receiving and paying cash or other assets against gains and losses in their positions and providing extra coverage against losses in case they default

IV. The completion of all legal obligations; e.g., when all payments have been successfully made, or the contract has been closed

Which of the following is CORRECT?