Bilateral Settlement

Bilateral settlement refers to the process where two parties in a trade settle their obligations directly with each other without the involvement of a central clearing house. This is common in over-the-counter markets where custom contracts are negotiated between participants.

Unlike centrally cleared trades, bilateral settlement exposes each party to the full credit risk of the other. If one party fails, the other must pursue legal recourse, which can be costly and slow.

In the digital asset space, some decentralized protocols attempt to facilitate bilateral settlement using smart contracts to escrow funds, attempting to automate trust. However, the lack of a central clearing house means that liquidity fragmentation is often higher.

This approach is preferred by institutions that want to keep trades private and avoid the costs associated with clearing fees. Yet, it requires sophisticated risk assessment of the counterparty.

The complexity of managing multiple bilateral relationships can lead to operational inefficiencies.