OTC Derivatives Market Reforms
- Focusing on International Discussion-
June 12, 2015
Shunsuke Shirakawa
Financial Services Agency Government of Japan
* This presentation represents the presenter’s own views, and not necessarily those of the FSA.
1. Background
G20 Pittsburgh Summit Leaders’ Statement
(Sep. 2009)
1. All standardized OTC derivative contracts:
a) should be traded on exchanges or electronic trading platforms, where appropriate; and
b) cleared through central counterparties(CCP).
2. OTC derivative contracts should be reported to trade repositories(TR).
Based on this G20 statement, regulatory reforms for
OTC Derivatives markets have started.
G20 Cannes Leaders Summit Communiqué
(Nov. 2011)(excerpt)
●Reforming the over the counter derivatives markets is crucial to build a more resilient financial system. All standardized over-the-counter derivatives contracts should be traded on exchanges or electronic trading platforms, where appropriate, and centrally cleared, by the end of 2012; OTC derivatives contracts should be reported to trade repositories, and non-centrally cleared contracts should be subject to higher capital requirements. ・・・We call on the Basel Committee on Banking Supervision (BCBS), the International Organization for Securities Commission (IOSCO) together with other relevant organizations to develop for consultation standards on margining for non-centrally cleared OTC derivatives by June 2012, and on the FSB to continue to report on progress towards meeting our commitments on OTC derivatives.
G20 Saint Petersburg Summit Leaders’ Declaration
(Sep. 2013)(excerpt)
● We welcome the FSB’s report on progress in over-the-counter (OTC) derivatives reforms, including members’ confirmed actions and committed timetables to put the agreed OTC derivatives reforms into practice. We also welcome the recent set of understandings by key regulators on cross-border issues related to OTC derivatives reforms, as a major constructive step forward for resolving remaining conflicts, inconsistencies, gaps and duplicative requirements globally, and look forward to speedy implementation of these understandings once regimes are in force and available for assessment. We agree that jurisdictions and regulators should be able to defer to each other when it is justified by the quality of their respective regulatory and enforcement regimes, based on similar outcomes, in a non-discriminatory way, paying due respect to home country regulation regimes. We call on regulators in cooperation with the FSB and the OTC Derivatives Regulators Group to report on their timeline to settle the remaining issues related to overlapping cross-border regulatory regimes, and regulatory arbitrage.
G20 Leader’s Communiqué
(Brisbane, Nov.2014)(excerpt)
●Strengthening the resilience of the global economy and stability of the financial system are crucial to sustaining growth and development. We have delivered key aspects of the core commitments we made in response to the financial crisis. Our reforms to improve banks’ capital and liquidity positions and to make derivatives markets safer will reduce risks in the financial system.・・・But critical work remains to build a stronger, more resilient financial system. The task now is to finalise remaining elements of our policy framework and fully implement agreed financial regulatory reforms, while remaining alert to new risks. We call on regulatory authorities to make further concrete progress in swiftly implementing the agreed G20 derivatives reforms. We encourage jurisdictions to defer to each other when it is justified, in line with the St Petersburg Declaration. We welcome the FSB’s plans to report on the implementation and effects of these reforms, and the FSB’s future priorities. We welcome the progress made to strengthen the orderliness and predictability of the sovereign debt restructuring process.
FSB - OTC Derivatives Reforms -
1)- take every opportunity to increase market use of central clearing, and minimize opportunities for regulatory arbitrage.
2)- renew their focus on the commitment to increase the use of exchanges and electronic trading platforms.
3)- implement finalized capital and margin requirements in accordance with agreed phase-in schedules.
4)- adopt resolution regimes for FMIs, and ensure that recovery / resolution plans for FMIs are developed in line with international guidance.
5)- continue to cooperate in the application of regulations in cross-border contexts, to enable them to defer to each other’s rules where these achieve similar outcomes.
6)- provide clarity regarding the detailed rules on the treatment of cross-border transactions and the timetables for implementation.
7)- Authorities will need to ensure that they can make full use of the data collected by trade repositories in fulfilling their financial stability mandates; to assist in this, a f/s on approaches to the aggregation of TR data is underway.
A lot of Work to be done by authorities…
OTC Derivatives Regulators Group (ODRG) Issue Report to the G20: Sep.2013
1)- Consultation/communication when equivalence or substituted compliance assessments are being undertaken is essential.
2)- A flexible, outcomes-based approach should form the basis of final assessments regarding equivalence or substituted compliance assessments.
3)- A stricter-rule approach would apply to address gaps in mandatory trading or clearing obligations.
4)- Jurisdictions should remove barriers (ⅰ) to reporting to TR by market participants and (ⅱ) to access to TR data by authorities.
5)- There should be appropriate transitional measures and a reasonable but limited transition period for foreign entities to implement OTC Derivatives reforms.
There are already many main points agreed:
2. Implementation in Japan
Mandatory
central clearing
Reporting requirement
2010 May
2012 Sep.
became effective on Nov. 1st
OTC Derivatives Market Reforms in Japan
Use of electronic trading platforms
Promulgation of amended
FIEA (1)
Promulgation of amended
FIEA (2)
Nov.
will be effective on Sep. 1st 2015
became effective on Nov. 1st
(Note)
(Note) Reporting starts from April 2013.
FIEA: Financial Instruments Exchange Act
Mandatory Clearing Obligations and Margin Requirement
A
Influence of default will spill-over through counterparties( )
CCP
C
B
D
C
B
D
Problem of Derivative
A
Market in Financial Crisis
C D
A
In case of counterparty’s default, collected margin helps prevent spill-over effects
B
MarginMargin
① Mandatory use of central counterparties (CCPs) for clearing standardized OTC derivatives transactions(Mandatory Clearing Obligations)
② Margin requirement for non-cleared OTC derivative transaction (Margin Requirement)
①Mandatory Clearing Obligations
②Margin Requirement
(Proposed rule in Japan was published in July 2014)
Promoting use of CCPs to prevent spill-over effects
2012 2013 2014 2015 2016 2017
Nov. July Dec. Dec. Dec.
○ Large financial institutions participating in CCP
○ Financial institutions with the outstanding OTC derivative transaction amount of no less than JPY 1 trillion are to be added
○ Financial institutions with the
outstanding OTC derivative transaction amount of no less than JPY 300 billion are to be added
○ Insurance Companies are to be added
Covered Entity
○ JPY-denominated “plain vanilla” Interest Rate Swap (IRS) with reference to Yen LIBOR
○ Index-based CDSs (iTraxx Japan)
○ JPY-denominated IRS with reference to Yen TIBOR
○ Transactions through trust accounts are to be added
Product Coverage
First stage Second stage
Mandatory use of central counterparties (CCPs) for clearing standardized swaps transactions
TR
Authority
<Purpose> Collection of OTC Derivatives Trade Information
trade information
*Japan exchange group started numbering LEI (Legal Entity Identifier) service from 1 Aug. 2014
Report to Trade Repository(TR)
Product Coverage of Reporting and Storing Trade Information:
○ OTC derivatives of forward1・option2 ・swap related to interest rate, currency, and equity OTC derivatives related to credit (e.g. CDS)
1 excluding products settled within period no more than 2 business days from trade date . 2 excluding products those exercise period is no more than 2 business days
Covered Entity:
○ Type I Financial Instruments Business Operator, Registered Financial Institutions (Shoko Chukin Bank, Development Bank of Japan, Norinchukin Bank and Shinkin Central Bank and other banks only), and Insurance Companies
trade
information trade information
trade information
CCP TR*
JFSA
Financial Institutions
(Type I Financial Instruments Business Operators)
(ⅰ)covered transactions of clearing mandate
(ⅲ) direct reporting (ⅱ) with use of TR
* DDRJ (DTCC data repository Japan/subsidiary of DTCC (U.S.) ) has been designated as TR
Report to Trade Repository(TR)
Type I FIBO
Fairness and transparency of transaction are to be improved
It is difficult to obtain transaction prices broadly and easily
Market participant
・Authority
ETP
Obligation to publish Trading information
JPY-denominated IRS
Transactions through telephone or voice broker
* Regulatory framework for foreign ETP operators to provide cross-border services is available in light of the large amount of transactions with foreign counterparties.
Mandatory Use of Electronic Trading Platforms (ETP)
Financial Institution
Financial Institution
Financial Institution
Financial Institution
Financial Institution
Financial Institution
Financial Institution
Financial Institution
It is possible to obtain transaction prices broadly and easily
Market participant
・Authority
<Purpose>
Enhancing Fairness and Transparency of OTC Derivatives Transactions
Date of Enforcement:
・ 1 Sep. 2015
Product Coverage of Mandatory Use of ETP:
・ JPY-denominated “plain vanilla” IRS (planning to stipulate details in Notification)
Covered Entity of Mandatory Use of ETP:
・ Financial institutions with outstanding OTC derivatives transaction amount of no less than JPY 6 trillion
Requirement for ETP:(not applied to Block Trade)
・ To have Order Book
・ To transact with Order Book or Request for Quote (RFQ) for no less than 3 counterparties
Publication of Trade Information by ETP:
・ Trade information should be published after transaction without delay.
(In the case of block trade, trade information should be published in the day after trade date)
・ Item of Publication :trade date, product category, transaction amount, etc.
(Identifiable information(e.g. name of counterparty) is excluded)
Mandatory Use of ETP
Product Coverage of Mandatory Use of ETP
(Draft Notification proposed on 29 May)Currency JPY
Floating Rate Indexes 6 month LIBOR
Fixed Leg
Payment Frequency Semi-Annual
Day Count Convention a/365
Floating Leg
Reset Frequency Semi-Annual
Day Count Convention a/360
Tenors 5,7,10 years
JFSA is conducting a public consultation on products which will be subject to mandatory trading (the consultation period is till 29 June).
The proposed products are Fixed-to-Floating Interest Rate Swaps which are cleared by Japan Securities Clearing Corporation and satisfy conditions below:
* Some detailed conditions are omitted from the above table.
Margin Requirement (BCBS-IOSCO’s revised framework)
Coverage:(FSA proposal)
Covered entity is defined in the same way as mandatory clearing obligations.
Covered transaction is non-centrally cleared OTC derivatives transaction between Financial Instruments Business Operators which have outstanding above threshold.
Type of Margin and Date of Enforcement
BCBS-IOSCO recently announced 9 month delay of the implementation timeline of bilateral margin requirement. FSA will finalize the rule in due course, taking into account the revised timeline.
September 2013 framework March 2015 revisions Initial margin
Covered entities belonging to a group whose aggregate month-end average notional amount of non-centrally cleared derivatives exceeding:
€3.0 trillion 1 December 2015 to 30 November 2016 1 September 2016 to 31 August 2017
€2.25 trillion 1 December 2016 to 30 November 2017 1 September 2017 to 31 August 2018
€1.5 trillion 1 December 2017 to 30 November 2018 1 September 2018 to 31 August 2019
€0.75 trillion 1 December 2018 to 30 November 2019 1 September 2019 to 31 August 2020
Covered entities belonging to a group whose aggregate month-end average notional amount of non-centrally cleared derivatives exceeding €8 billion
From 1 December 2019 forward From 1 September 2020 forward
Variation margin Covered entities belonging to a group whose aggregate
month-end average notional amount of non-centrally cleared derivatives exceeding €3 trillion
1 December 2015 1 September 2016
All other covered entities 1 March 2017
Differences between Margin Requirement Frameworks
* Note that all descriptions below are based on the draft regulations for public consultation in each jurisdiction .
Proposed Margining Regime
WGMR final report (Sep 2013)
Japan (draft) (Jul 2014)
E.U. (draft) (Apr 2014)
U.S. (draft) (Sep 2014)
Covered Entity Financial Firms and Systemically Important Non Financial Entities
Financial Instruments Business Operator, etc.
Financial Entity and Non Financial Entity(conditional)
Swap Entity and Financial End User
IM Phase In
Dec. 2015 EUR 3 tn Dec. 2016 EUR 2.25 tn Dec. 2017 EUR 1.5 tn Dec. 2018 EUR 0.75 tn Dec. 2019 EUR 80 bn
Dec. 2015 JPY 420 tn Dec. 2016 JPY 315 tn Dec. 2017 JPY 210 tn Dec. 2018 JPY 105 tn Dec. 2019 JPY 1.1 tn (about EUR 80 bn)
Dec. 2015 EUR 3 tn Dec. 2016 EUR 2.25 tn Dec. 2017 EUR 1.5 tn Dec. 2018 EUR 0.75 tn Dec. 2019 EUR 80 bn
Dec. 2015 USD 4 tn Dec. 2016 USD 3 tn Dec. 2017 USD 2 tn Dec. 2018 USD 1 tn Dec. 2019 USD30 bn (about EUR 38.5 bn) (for Swap Entity threshold is 0 )
Eligible Collateral for VM
Cash, Government bond, Gold, etc.
Cash, Government bond, Gold, etc.
Cash, Government bond,
Gold, etc. Cash
Hair Cut for
Currency Mismatch 8% 8% 8%
8%
(But no requirement for VM in U.S. dollar cash)
Timing of Collateral
Settlement ― Without delay T+1 T+1
Collateral
Concentration Limit Not overly concentrated ― Securities issued by a single
issuer shall no exceed 50% ―
Intragroup Transaction
Appropriate regulation in a manner consistent with each
jurisdiction’s framework
Not covered Not covered subject to
approval Covered
3. Progress on bilateral
discussions
Discussion with US CFTC
― Remaining issues for substituted compliance determination (i.e. reporting requirement to TR , clearing obligations etc.)
― Derivatives Clearing Organization(DCO) registration:
Japan Securities Clearing Corporation (JSCC)
― Early consultation framework to avoid conflict of regulations on trading mandate
Points to be concluded
― Substituted Compliance Determination (Dec. 2013):
A broad range of entity-level regulatory requirements for swap dealers in Japan were decided to be comparable to and as
comprehensive as those of the CFTC’s requirements
― Supervisory Cooperation (Mar. 2014):
JFSA and CFTC agreed on Memorandum of Cooperation (MOC) to enhance supervision of cross-border regulated entities
Points agreed
Discussion with EC/ESMA
― The European Commission adopted the equivalence decision for the regulatory framework of Japan for CCPs to the requirements of EU regulation on
Oct. 30, 2014.
― JFSA and ESMA established a cooperation
arrangement related to the supervision of CCPs on Feb. 18, 2015.
― ESMA recognized two CCPs in Japan (JSCC and TFX) as third-country CCPs on April. 29, 2015.
The procedure for the recognition of Japanese CCPs
to provide EU financial institutions with clearing services
4. Challenges
Challenges for regulators in the implementation phase 1. Resolving cross-border issues
- how to reconcile differences in the rules
- how to prevent market fragmentation risks
- how to prevent dominance by a small number of major financial institutions or markets
2. Assessing and addressing the effect of regulatory reforms
- cumulative impact of various reform measures - unintended consequences
- regulatory gaps or inconsistencies of incentives
(e.g. clearing obligation vis-a-vis leverage ratio regulation)
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