On April 6, the Basel Committee on Banking Supervision released a consultation paper on several potential changes to the Basel III leverage ratio framework, including changes to the treatment of derivatives exposures.
The Basel Committee acknowledged the industry's concern that the leverage ratio will adversely impact the availability of client clearing, and announced that it will seek "further evidence and data" on the impact of the leverage ratio on client clearing and the business models of clearing firms. The consultation period will end on July 6 and the proposed changes are expected to be finalized by the end of 2016.
One of the proposed changes to the leverage ratio framework would affect the measurement of counterparty credit risk in derivatives trades. The Basel Committee proposed using a modified version of the "standardized approach for measuring counterparty credit risk exposures" (SA-CCR) rather than the existing "current exposure method" (CEM).
As proposed, this approach would not allow offsets from initial margin posted by clients, as FIA and other market participants have requested. The Basel Committee said, however, that it is “carefully considering” the concern about the impact on client clearing and indicated that it may consider whether to permit offsetting based on the data it gathers from the consultation.
"The Committee has decided that further evidence and data on the impact of the Basel III leverage ratio on client clearing and on CMs’ [clearing members'] business models should be collected during the consultation period, in light of the G20 mandate for central clearing," the Basel Committee said.
"The Committee will consider both the effects of the Basel III leverage ratio on the client clearing business model and the need for banks to have adequate capital to support their clearing activities in deciding whether to expand upon the measures described above, which may include permitting offsetting of a CM’s PFE [potential future exposure] with the IM [initial margin] posted by clients on whose behalf it clears derivative transactions."
Additionally, the Basel Committee highlighted that the SA-CCR approach uses a shorter margin period of risk for calculating the potential future exposure of cleared trades, a key element in the leverage ratio framework. The Basel Committee said that data it has collected on client clearing showed that this shorter time horizon would result in a "significant decrease" in the calculation of potential future exposure. "This approach can be viewed as internally consistent with the Basel III leverage ratio framework's principles and at the same time providing incentives to support the use of central clearing," the Basel Committee stated.
FIA issued a press release shortly after the consultation was published welcoming the Basel Committee’s decision to consider revisions to the leverage ratio but expressing its disappointment that the proposed changes to the measurement of counterparty risk would not permit offsets from client margin.
"It's critical that we get the calculation for the leverage ratio right,” said Walt Lukken, president and CEO of FIA. “The leverage ratio should not stand in the way of the G-20’s goal of reducing systemic risk through greater adoption of central clearing.
On March 15, the European Commission adopted the long-awaited decision on the equivalence of the Commodity Futures Trading Commission’s clearing rules, paving the way for U.S. clearinghouses to seek recognition in the European Union and easing uncertainty around cross-border trading between Europe and the U.S.
The decision means that clearinghouses registered with the CFTC can seek recognition from the European Securities and Markets Authority. Market participants will be able to use them to clear over-the-counter derivatives, while the clearinghouses will remain subject solely to the regulation and supervision of the CFTC. In addition, these clearinghouses also will obtain “qualifying CCP” status under the EU’s Capital Requirements Regulation. As a result, EU banks that are members of these CCPs will be subject to a lower risk weight in calculating their regulatory capital requirements.
The equivalence decision only applies to clearinghouses regulated by the CFTC, however. Clearinghouses regulated by the Securities and Exchange Commission have not yet been deemed subject to equivalent regulation, in part because the SEC has not yet finalized its standards for clearinghouses that are subject to SEC regulation. These clearinghouses include the OCC, which is the principal clearinghouse for the U.S. equity options markets, and the National Securities Clearing Corporation and the Fixed Income Clearing Corporation, both of which are subsidiaries of the Depository Trust and Clearing Corporation.
For that reason, FIA sent a letter to SEC Chairman Mary Jo White on April 26 stressing the importance of quick action on its standards for these clearinghouses, which have been pending since March 2014. Without these standards, these clearinghouses cannot be recognized in Europe, and EU banks will not be able to remain members of these clearinghouses without facing a steep increase in their capital requirements, FIA warned.
“FIA believes that finalization of these standards should be a priority for the SEC as further delay risks substantial market disruptions,” FIA President and CEO Walt Lukken said in the letter. “Without such standards, clearing members that are located in the European Union may no longer be able to access covered clearing agencies regulated by the SEC, and until such time, may be subject to punitive capital requirements.”
On April 6, the International Organization of Securities Commissions published a report on cyber resilience in securities markets. The report reviewed the different regulatory approaches related to cybersecurity being used around the world and the potential tools available to regulators, with a focus on risks related to trading venues, market intermediaries, asset managers and financial market infrastructures. The report also described some of the practices adopted by market participants. The work was coordinated by the Québec Autorité des Marches Financiers, with the assistance of the Monetary Authority of Singapore and the China Securities Regulatory Commission.
On April 28, FIA President and CEO Walt Lukken warned members of Congress that the capital required to meet the new leverage ratio requirements will make it more difficult for banks to provide clearing services to end-users.
“New capital requirements are lessening clearing options for end-user customers who use futures and cleared swaps to manage their business risks,” Lukken said at a hearing held by a subcommittee of the House Agriculture Committee. “This harms farmers seeking to manage commodity price fluctuations, commercial companies wishing to lock in prices as they distribute their goods, and pension funds using derivatives to enhance workers’ retirement benefits. The negative impacts to the real economy are significant.”
“New capital requirements are lessening clearing options for end-user customers who use futures and cleared swaps to manage their business risks.” Walt Lukken
Lukken noted that while FIA generally supports efforts to appropriately enhance capital requirements, the leverage ratio has failed to properly consider the exposure-reducing effect of customer margin.
“An end-user that utilizes the futures market to hedge its business risks is required to clear transactions through a clearinghouse, and to do so it must offset its exposure by posting margin through a clearing member,” he explained. “These are customer funds, provided specifically to offset the bank-affiliated clearing member’s exposure in their obligation to pay the clearinghouse on behalf of the customer. Such customer margin should therefore be considered an offset in determining the bank’s exposure.”
After several months of negotiations, BM&FBovespa announced on April 8 that it had succeeded in reaching an agreement to buy Cetip, Brazil's central depository for fixed income securities and derivatives.
Officials at BM&FBovespa, which runs Brazil’s stock and futures markets, said the integration of the two companies will benefit market participants by consolidating their back office and treasury systems and processes, significantly reducing operating costs and risks for the entire financial system. The officials also emphasized that the deal will provide greater capital efficiency by allowing customers to clear both OTC and exchange-traded derivatives with the same central counterparty. Cetip currently offers registration for over-the-counter derivatives, and as a separate organization had the potential to offer OTC clearing in competition with BM&FBovespa.
To finance the acquisition, BM&FBovespa sold the remainder of its stake in CME Group. The 13.6 million shares, equivalent to 4% of CME's equity, were worth roughly $1.2 billion. The Brazilian exchange acquired the shares in 2007 as part of a business partnership. Although BM&FBovespa no longer has any shares in CME, CME continues to own 4% of the Brazilian exchange and holds a seat on its board of directors.
In a separate transaction, the Brazilian exchange announced the purchase of a small stake in Bolsa Mexicana de Valores, the parent company of Mexico’s main stock and derivatives exchange. BM&FBovespa officials said the investment, estimated to have cost 640 million Mexican pesos ($37 million), was part of a strategy to build a network of relationships among Latin American exchanges.
BM&FBovespa chief executive officer Edemir Pinto said last year that the exchange seeks to purchase minority stakes in bourses in Argentina, Mexico, Colombia, Chile and Peru.
On April 22, FIA responded to the Treasury Department's Request for Information on the evolution of Treasury market structure. FIA stressed the importance of taking into account the existing regulations already in place for U.S. futures markets and cautioned against singling out Treasury futures for additional oversight. FIA noted that existing regulations cover trading risk controls, enhanced market surveillance and market data collection, and it urged regulators to avoid imposing additional unnecessary regulation in these areas on futures markets.
FIA Principal Traders Group submitted a separate response, warning that any changes in market structure must first acknowledge the benefits afforded by technological innovations and increased competition, including improved transparency and lower costs for investors. FIA PTG recommended that regulators increase the use of both pre- and post-trade risk controls as well as self-match prevention technology.