The Mexican finance ministry, the country’s banking regulator and the central bank have announced that they are to coordinate the standardization of derivatives contracts.
The initiative is intended to reduce counterparty credit risk by requiring that all such contracts trade on exchanges or electronic platforms and are cleared with central counterparties. At the same time, the finance ministry proposes to increase capital requirements for OTC contracts and require bilateral margin as collateral.
Taken together, the reforms, which are expected to be enacted by the end of 2014, should discourage OTC contracts and create liquidity in the standard derivatives products.
Currently, most derivatives trading occurs offshore, but there are hopes that the new standard contracts will create the ability for seamless trading of both onshore and offshore contracts.
“It will take time but if the government moves to create this standard and ensure that there isn’t any tax friction when trading onshore versus offshore, then the growth could be significant,” says a New York-based risk management banker.
The fight is on to discourage OTC contracts
“The idea is to enable cost-neutral trading of peso FX derivatives, as well as rates, that will enable deeply liquid, 24-hour trading. It will take years to achieve this liquidity but this is an important step.”
The onshore contracts will be cleared through Mexico’s sole derivatives clearing house, Asigna, which today clears only 2% of all derivatives in Mexico. Felipe Carvallo, senior analyst at Moody’s, believes the changes will lead to 20% to 30% of OTC contracts migrating to the exchange-traded format.
The changes will also expand Asigna’s product mix by allowing central counterparties to handle both OTC derivatives and those traded on other central bank-approved platforms. Asigna will now be able to provide services such as registry and information storage for these non-exchange derivatives.
Although the proposed reforms are generally in line with the International Organization of Securities Commissions’ guiding principles, the reforms do not envisage switching the settlement bank from BBVA Bancomer to the central bank, which Carvallo notes would have reduced settlement risk.