Banks face derivatives shake-up in Asia

June 13, 2013 12:40 pm

Banks face derivatives shake-up in Asia

By Jeremy Grant in Singapore

Global banks trading over-the-counter (OTC) derivatives with some Asian counterparties risk being in breach of US regulations or falling foul of Asian countries’ data secrecy laws as sweeping US rules on such markets take effect.

This latest hurdle to the smooth implementation of the US Dodd-Frank Act is another blow to the growth of Asian OTC markets, which could be derailed if participation becomes too difficult.Under the act, which prescribes sweeping reform to the once-opaque OTC markets in the wake of the 2008 financial crisis, key details of most OTC derivatives trades must be reported to regulators to provide them with a transparent audit trail of trades. Those include details on the counterparties involved.

The Commodity Futures Trading Commission, the US markets watchdog, has exempted until June 30 banks and other OTC traders registered as “swap dealers” from a requirement to reveal the identity of the counterparties with which they are trading.

However, the biggest banks active in the OTC markets in Asia are “extremely concerned” about what happens when that exemption expires, according to theInternational Swaps and Derivatives Association, which represents banks in the OTC markets.

That is because under some countries’ laws on data secrecy – notably China – it can be a criminal offence, or give rise to a civil claim, to disclose the name of a counterparty or information on trades

Under CFTC rules, a bank needs to obtain written consent from its trading counterparty before it hands over any information to a regulator on its counterparty.

Keith Noyes, Isda’s regional director for the Asia-Pacific region, said that this would be “a bridge too far” for most Chinese counterparties given the country’s data secrecy laws.

However, failing to provide the CFTC with information on counterparties would trigger a breach of the Dodd-Frank rules, leaving banks with the awkward choice of facing sanction by the US regulator or possible serious legal consequences in China.

Paul Landless, counsel at law firm Clifford Chance in Singapore, said banks were “very concerned”.

About 80 per cent of China’s OTC derivatives market is made up of foreign exchange derivatives, with the rest interest rate swaps. It is a small fraction of the overall size of Asia’s OTC derivatives market, which itself accounts for about 8 per cent, or $43tn, of the total global notional outstanding value of OTC derivatives trades.

However, Mr Noyes said: “In the global scheme of things it’s a small market at the moment but would you really want to tell banks you’ve got to stop doing business in China given how much they’ve invested there and the potential they see? I think China’s a big problem.”

In South Korea banks faced problems because the country’s laws require that written consent to reveal counterparty details to a regulator must be sought for each individual trade, he said. Elsewhere in Asia, a single consent is sufficient to cover current and future trades.

“If you are trying to do trade reporting on a daily basis this may not be do-able,” Mr Noyes said. “It is a logistical problem with no-one able to figure out how to get consent on this basis.”

Asian regulators last year expressed concern to the CFTC about the possible chilling effect of Dodd-Frank on Asian OTC markets. The latest worry over data secrecy is likely to put pressure on the regulator to consider extending the June 30 deadline, lawyers said.

“This privacy question around mandatory trade reporting has been in place since the very beginning of [the OTC market reforms] and has still not been resolved. The CFTC will need to react to these realities in Asia, particularly given the recent criticisms from Asian regulators,” Mr Landless said.