Global OTC derivatives reform gathers pace
Companies that use over-the-counter (OTC) derivatives to manage foreign-currency earnings exchange-rate risk will have taken note of recent pro-active developments on market reform in Asia and Africa. The next step – mandatory clearing in Asia – will trigger a wave of margin compression and shifts in market infrastructure.
Earlier this week, a Financial Stability Board (FSB) report on implementation of the reforms to OTC derivatives markets agreed by the G20 suggested that while FSB member jurisdictions have made ‘good progress’ in implementing these requirements, further work needs to be undertaken to ensure the data collected by trade repositories can be effectively used by regulators.
Specific observations included that not all of the 24 FSB member jurisdictions had implemented comprehensive reporting; that many legal and regulatory barriers to reporting complete transaction information remained; that authorities’ access to trade repository data is often impeded; and that the quality and usability of trade repository data needs to improve.
However, the rate of progress on reform has clearly picked up in countries such as Hong Kong, South Africa and Australia. For instance, Kelle Gagné, foreign legal counsel at law firm ENSafrica, says South Africa has made substantial progress towards implementing the G20 agreements over the past 12 months.
“This time last year we only had a basic framework for regulation in the form of the Financial Markets Act, 2012 (FMA)," she says. "In June 2015, the National Treasury released a second draft of the regulations to the FMA and at the same time a number of first-draft board notices were released by the Registrar of Securities Services, a division of South Africa’s financial services regulator.”
The draft regulations deal with the clearing of and reporting in respect of OTC derivative transactions, as well as the licensing regimes for different types of market infrastructure. The board notices deal with, inter alia, a code of conduct for OTC derivative providers and margin on non-centrally cleared OTC derivative transactions.
A spokesperson for the Hong Kong Monetary Authority (HKMA) notes that the rules for mandatory reporting and related record-keeping obligations included in the Securities and Futures (Amendment) Ordinance 2014 took effect in July 2015 and that the HKMA and Securities and Futures Commission will consult the public on the detailed rules for implementing other aspects of the regime later this year.
In Australia, during the past 12 months, 'Phase 2' organizations – domestic banks, foreign banks operating in Australia, Australian financial services licensees, exempt foreign licensees and clearing and settlement facility licensees which have greater than A$50 billion total gross notional outstanding positions – have commenced reporting, explains Sonia Goumenis, a partner at Australian law firm Clayton Utz.
“In April, reporting obligations commenced for financial institutions with gross notional outstanding positions between A$5 billion and A$50 billion,” she says. “The final implementation phase [commenced] in October for those classes of financial institutions with outstanding positions below the A$5 billion threshold.”
Mandatory clearing will be the next of the G20 reforms to be implemented in Australia – the draft clearing rules were released in May with comments invited before the end of June.
“Interest-rate derivatives denominated in AUD, USD, EUR, JPY and GBP traded between internationally active dealers will be required to be cleared,” adds Goumenis. “Commencement is scheduled for March 2016.”
Christian Voigt, senior regulatory adviser at Fidessa, adds the expansion of the Securities and Futures Act in Singapore to the list of examples of revamped OTC derivatives markets outside the G20.
According to Chris Harvey, global head of financial services at Deloitte Touche Tohmatsu, the reforms outlined above could substantially impact derivatives markets outside the US and Europe.
“There is the potential for margin compression as fees paid to overseas clearing houses will reduce profitability in addition to the effects of standardization and price transparency; reduced liquidity since cleared transactions are likely to consume more liquidity due to margin requirements; increased demands on operations and technologies as market infrastructure evolves and different market participants and intermediaries become involved in what were once bilateral trades; and impact on banks’ capital requirements and product mix as a result of non-cleared derivatives becoming more capital intensive,” he says.
The focus of Asia-Pacific regulators is now switching to mandatory clearing, with regulators in Singapore having issued proposals in May, observes Tom Jenkins, partner at KPMG China.
He notes that the range of instruments covered by the first phase of mandatory reporting and clearing is more limited in Asia than it was in either Europe or the US, but expects a number of regulators to widen the scope of their requirements to cover more categories of derivatives.