Clearinghouses Weigh In on OTC Reforms

Terry Flanagan

Regulations need not be in lockstep, but should be informed by a common set of principles.

Derivatives clearinghouses are urging regulators to harmonize implementation efforts on OTC reforms. Failure to do so will result in regulatory arbitrage.

Under the Dodd-Frank Act, the Securities and Exchange Commission and the Commodity Futures Trading Commission are required to jointly study and report to Congress on swap regulation and clearinghouse regulation in the United States, Europe, and Asia, and to identify areas of regulation that need to be harmonized.

“If the ultimate goal of the regulators is global reform, the current set of rules are not working well. Rather than take a ‘living Constitution’ type approach of flexible but not breakable rulemaking, it appears that overly granular and inconsistent approach is being taken,” Mike Wilkins, product specialist at SunGard global trading, told Markets Media.

“It has the potential to stifle innovation for new products and attempts to set procedures for orderly default of DCO clearing members, which could lead to disorder,” Wilkins said.

A major part of the SEC-CFTC study, which by law must be produced no later than March 2012, will be devoted to a comparison of the different regulatory regimes.

While regulators are taking steps to harmonize their approaches, differences in legislation enacted on both sides of the Atlantic threaten to disrupt innovation.

“Critically important to global regulation is the ability for international regulators to agree to common core principles,” said InterContinental Exchange in a comment letter.

“In addition, a mutual recognition system based upon these core principles is necessary given that the burden of meeting multiple, conflicting regulations would hamper or suffocate the industry,” ICE said.

The reforms stipulate mandatory central clearing for standardized OTC derivatives such as interest rate swaps and credit default swaps.

Operators of clearinghouses that span geographic boundaries acknowledge that differences in regulations are inevitable.

“Exact harmonization of laws and regulations should not be a goal for regulators; instead regulators should seek a common approach to core regulatory principles,” said ICE.

Eurex Clearing, the largest derivatives clearer in Europe, provides clearing services for Eurex Exchange, as well as, via Eurex Credit Clear, for CDS traded off-exchange.

Eurex Clearing has been following legislative and regulatory developments closely, particularly in Germany, the European Union, and the United States in response to the G-20 commitments on OTC derivatives.

“As an entity that could potentially be adversely impacted by inconsistent regulation across countries, Eurex Clearing agrees that international coordination is critical to entire that the regulatory structure for swaps is … legally consistent across national borders,” the company said in a comment letter.

LCH.Clearnet said that it supports the creation of a technical working group set up in June 2011 made up of U.S. market regulators, the European Commission and the European Securities and Markets Authority (ESMA), aimed at fostering alignment between Europe and the U.S.

Juxtaposed against the need for harmonization is the need to for jurisdictions need to aggressively push forward in order to meet the end-2012 deadline in as many reform areas as possible, according to a progress report released this month by the Financial Stability Board.

International regulators and supervisors are hammering out policies on the critical areas of OTC reform, such as central clearing, trade reporting to repositories, and exchange and electronic platform trading.

The OTC Derivatives Regulators’ Forum (ODRF) is developing cooperative oversight arrangements among authorities involving OTC derivatives central counterparties (CCPs) and trade repositories with wide international memberships.

This month, the ODRF met with a number of OTC derivatives CCPs and trade repositories. The authorities discussed with the CCPs and trade repositories a number of issues around the practical experience of information sharing between authorities and the infrastructures, and the role of the infrastructures as regulatory reforms are implemented, along with general market developments.

The OTC Derivatives Supervisors Group (ODSG) in March published a strategic roadmap of industry initiatives and commitments from the G14 dealers, including standardization, central clearing, risk management and transparency.

The Committee on the Global Financial System is preparing a report on the macro-financial implications of alternative configurations for access to CCP in OTC derivatives.

The International Organization of Securities Commissions (IOSCO) is preparing a report for publication in January on international standards to address coordination of central clearing requirements with respect to products and participants, and any exemptions from clearing requirements.

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