Regulations should promote information sharing between cash and derivatives markets, participants say.

Companies that actively trade energy commodities are exhibiting a keen interest in derivatives regulations now taking shape in Canada.

They are making known their positions on issues related to trading and reporting of OTC transactions, and in particular the interrelationships between the physical and financial markets for energy commodities such as coal, electric power, and crude oil.

“The energy trading community in Canada will be impacted by rules surrounding trading and reporting of derivatives,” Michael Hinton, chief customer officer at Allegro, a provider of energy trading and risk management technology, told Markets Media. “Customers are global in nature, so they are affected by regulations globally.”

Energy companies are generally supportive of bringing greater transparency and stability to the energy derivative markets in Canada. At the same time, they are asking that regulators strike a balance between effective regulation and not hindering the derivative markets.

“Energy derivatives do not pose a systemic risk,” according BP Canada Energy Co., in a letter sent in response to the Canadian Securities Administrators’ consultation paper 91-403 on derivatives surveillance and enforcement. “We encourage Canadian regulators to develop a surveillance and enforcement regime that avoids chilling legitimate market behavior.”

Consultation 91-403 sets forth proposals on surveillance and monitoring, market conduct and enforcement, which are intended to manage specific risks related to OTC derivatives, as well as support Canada’s G20 commitments to improve OTC derivatives markets.

The Canadian OTC derivatives market comprises a relatively small share of the global market. Of that market, the majority of OTC derivative contracts entered into by Canadians are interest rate swaps and foreign currency forwards, while commodity OTC derivative transactions are a minority of the transactions.

BP Canada noted that the spot or cash market for energy commodities is distinct from the derivatives market for those commodities. Energy derivatives are unique in that they may allow for physical settlement or be used as physical hedges.

The Canadian Securities Administrators has noted that regulation already exists for the spot markets, or markets where physical commodities are bought and sold at current market prices and delivered immediately.

An example is Alberta’s Market Surveillance Administrator (MSA), which monitors Alberta’s electricity spot market and natural gas retailers to ensure they operate in a fair and efficient manner.

“Although the spot market regulated by the MSA is a very small percent of total market activity  for the commodities that it regulates, to the extent that the MSA has anti-manipulation authority, the CSA should take care not to impose additional regulations on that market,” according to BP Canada.

Rather, any perceived overlap between spot and derivatives markets should be dealt with by the sharing of information between regulators.

“Regulators can then avoid placing market participants in double jeopardy due to duplicative regulation over the same market activity,” said BP Canada.

In 2010, the CSA issued its consultation paper on proposed OTC derivatives regulation (91-401), which laid out the overall roadmap of derivatives reforms.

The consultation paper enumerated specific objectives, including mandatory reporting of all derivatives trades by Canadian counterparties to a trade repository.

Since then, the pace of regulatory change has quickened. In 2011, consultation papers were put out for comment on trade repositories (91-402), and surveillance and enforcement (91-403).