February 10, 2012 / 3:51 PM / 7 years ago

End of EU derivatives haggling sparks new concerns

* Derivatives industry sees more uncertainty over EU rules

* Lawyers say many months before full picture known

* ESMA, EC see new rules not in full effect until end 2012

By Huw Jones

LONDON, Feb 10 (Reuters) - A deal on European Union rules to crack down on derivatives has triggered fresh anxiety over when the $700 trillion sector must start complying, industry and legal experts said on Friday.

The agreement becomes law when published in the bloc’s Official Journal within several weeks. The crucial implementing measures, however, will not be in place until year-end or early 2013.

This disconnect opens up a legal grey area for some.

“There will be some uncertainty as to where exactly this will bite,” said Richard Metcalfe, head of global policy at the International Swaps and Derivatives Association (ISDA).

The rules follow a pledge made by G20 world leaders in 2009 to shine a light on a sector central to the financial crisis.

They mandate clearing and reporting of transactions by the end of 2012 so that regulators have an instant snapshot of who is behind every trade when things go wrong, a lesson learned from the collapse of U.S. bank Lehman Brothers in 2008.

“Even though the regulation has been agreed, some companies will not know exactly how it affects them until the details that have been delegated to the Commission have been decided,” said Hannah Meakin of law firm Norton Rose.

The European Securities and Markets Authority (ESMA) will thrash out those details by the end of September, with a further three months for the EU’s European Commission to approve them.

ESMA said on Friday the law will come into force following the endorsement of its technical standards by the Commission.

A European Commission official said the law is effective once published in the Official Journal but “full practical entry into force” will not take place until ESMA’s standards are approved.

“This means the entirety of derivatives rules should be in force early next year, in time to mee the G20 commitments,” the Commission official said.

Ed Parker, a derivatives lawyer at Mayer Brown, said it is incredibly unlikely that the EU law would be allowed to come into force without the ESMA standards in place and he expects no problematic legal “gap”.


Industry is viewing the next few months as a double-edged sword: while it may create uncertainty it also means that ESMA has more time to consult and get its rules right.

Many of the changes in the law are already underway.

“The bottom line is that the industry has done a lot more to address systemic risk than what is in this legislation,” ISDA’s Metcalfe said.

“We have trade repositories up and running or in the works for all major asset classes. You have clearing steaming ahead having already been well developed by the time the crisis happened,” Metcalfe said.

Even when the fog over EU rulemaking has lifted, there will still be some unknowns embedded in the rules as banks will not know for sure if their contracts require clearing later on.

Clearing involves extra costs like an initial margin from the customer and industry officials say some clients may balk at this costly change in terms and go to the courts.

Banks are looking to see how ESMA will define when a contract is used for hedging, such as by an airline to guard against adverse price moves in jetfuel, and thereby be exempt from clearing. ESMA will also have to define when a contract is standardised enough so that it must be centrally cleared.

One of the biggest reforms for the industry is not even part of the EU law and likely to be the most expensive.

The Basel Committee of global bank supervisors is to rule how much collateral banks must post to cover their derivatives exposures to clearing houses, which will change the economics of a trade.

“The price banks will quote for long term swap will be a lot higher due to the capital they have to put up against it,” said Alex McDonald, CEO of the Wholesale Market Brokers’ Association. (Editing by David Cowell)

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