ESA Proposes Changes to OTC Derivatives Regulation

Amendments to Regulatory Technical Standards would provide exemptions to clearing obligation rules

This Friday the European Supervisory Authorities Authority (ESAs) launched two consultations regarding Regulatory Technical Standards (RTS) for non-cleared over-the-counter (OTC) derivatives. The two consultation papers propose amendments to RTS regarding the clearing obligation and risk mitigation techniques for non-cleared OTC derivatives.

In one of the consultation papers, the ESAs proposes amendments to clearing obligation regulation. Currently, financial counterparties, such as banks or asset managers, and non-financial counterparties, which includes any EU firm holding a specific number of positions in OTC derivative contracts, are forced to centrally clear certain classes of over-the-counter (OTC) derivative contracts through central counterparty clearing (CCPs).

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The purpose of this regulation was to reduce the level of counterparty risk posed by non-cleared OTC derivative trading. Now, however, the ESAs is suggesting specific strategies may reduce counterparty risk so as to make those using them exempt from the clearing obligation.

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The consultation paper notes that those using covered bonds or securitizations can provide sufficient coverage against counterparty risk. As such, those holding either covered bonds or securitizations may no longer be subject to clearing obligations in the future.

Risk Mitigation and Securitizations

The ESAs’ other consultation paper follows a similar trend. It proposes extending exemptions to risk mitigation techniques set out by the RTS to cover securitizations.

Currently, the use of covered bonds is an accepted part of the RTS’ risk mitigation strategy. Securitisations, on the other hand, are not. Today’s paper notes that the counterparty risk management strategies used with securitizations are almost identical to those used with covered bonds. As such, the ESAs are suggesting that using securitizations becomes an accepted part of the RTS risk mitigation strategy.

The consultation period set out by today’s release will last until the 15th of June 2018. Firms will have until then to provide feedback on the reports. There will also be a public hearing to discuss the proposed changes at the European Banking Authority on 31st of May 2018, from 15.00 to 16.00 UK time.

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