Derivatives Regulation Resource Page

The latest developments in US and European OTC derivatives regulation initiatives.

The main provisions of the various regulatory and legislative initiatives on both sides of the Atlantic are summarized in the table below. Check back regularly for updates.

THE US HOUSE OF REPRESENTATIVES:
The House passed a sweeping financial reform bill on December 11, 2009 covering a range of issues including extensive new regulations for the over-the-counter derivatives market. The Wall Street Reform and Consumer Protection Act (HR 4173) was passed 223-202 with no Republican votes, and with many so-called Blue Dog, or centrist, Democrats, in opposition.

Aside from derivatives, the bill covers how the government will:
1) regulate and potentially unwind too-big-to-fail banks;
2) oversee rating agencies, hedge funds, executive compensation and mortgages;
3) establish a Consumer Financial Protection Agency;
4) establish a financial stability council to oversee systemic risks; and
5) conduct Congressional audits of the Federal Reserve.

The derivatives measures grew out of a mid-August proposal by the Treasury Department, which was modified by the House Financial Services and Agriculture Committees. The principal aims were:
1) to bring the $600 trillion (notional) OTC market under regulators’ authority;
2) to require standardized contracts to be cleared by central counterparties;
3) to require non-commercial hedgers with significant net derivatives exposures (either dealers or “major swap participants”) to trade their instruments on exchanges;
4) to require all users to comply with sensible collateral and/or margin requirements;
5) to require dealers that trade non-standardized instruments to hold additional capital against them;
6) to require all trades, whether on exchanges or transacted bilaterally, to be reported to regulators; and
7) to give regulators more authority to set position limits on derivatives with physically deliverable underlyings.

Controversy over the following issues arose during the drafting and amendment process of the House bill:
1) What constitutes a “standardized” contract and will clearinghouses or regulators have the authority to decide what contracts must be cleared?
2) How should the commercial hedging exemption be drafted to ensure dealers and other financial players (such as hedge funds) don’t exploit it?
3) How should an exchange be defined—as a traditional listed market, or should electronic systems and/or even voice brokers be allowed?
4) Should the exemption for foreign exchange swaps and forwards be retained?

A summary of the House bill is available here.

The text of the House bill is available here.

THE US SENATE
The action now turns to the Senate. Senator Christopher Dodd introduced OTC derivatives regulation legislation in the Senate in November, but no action had been taken as of December 14, 2009. Dodd’s bill has no exemption for commercial hedgers. Mr.. Dodd believes these are too open to exploitation by the dealer community.

The text of the Senate bill is available here.

THE UK
The Financial Services Authority and the UK Treasury issued a joint report on December 17 calling for more transparency in the OTC market. But they opposed forcing standardised derivatives onto clearinghouses, and came out against position limits, putting them at odds with their US and European counterparts.

The Treasury/FSA report is available here.

THE EUROZONE
The European Commission is expected to draft its own derivatives legislation in early 2010.