Margining Capital
Requirements: Very Big, Yet Hard to See Now that commodity markets are being gradually captured under a suite of legislative packages, transparency will overcome off-market trading opaqueness and margining practices will be much improved. But applying these regulations reveals the inherent risks in commodity trading which will require billions in new margining capital. Here, we highlight the introduction of legislation as a strategic issue ... and introduce the Center product as a competitively priced workable solution.
By Aily Armour-Biggs
THE FINANCIAL CRISIS has resulted in regulators on both sides of the Atlantic introducing stringent new regulations to govern the management and reporting of over-the-counter (off-market) derivatives transactions. These new, wide- sweeping regulations affect both financial and commodity markets, and introduce stringent new controls, plus onerous transaction reporting and capital requirements which will impact all market participants. The key issue is that commodity markets are
now captured under Title VII of the Dodd-Frank Act [primarily regulated by the US Commodity Futures Trading Commission (CTFC)], and the corresponding EU legislative packages [primarily regulated by the European Agency for the Cooperation of Energy Regulators (ACER) and the European Securities and Markets Authority (ESMA)]. The main problem here is not the transaction
reporting requirement – compliance – but the capital requirements. This means that if your trading position starts to move against you (meaning you become a greater credit risk to your counterparty) then you have to post ‘margin’ (or extra margin) to protect your counterparty and cover the credit risk. Consequently, the real impact on margin capital
requirements could be very big, yet hard to see. Commodity prices are extremely volatile and just because oil prices might double does not mean your working capital lines from banks to support trading will. This is a strategic issue for the commodity trading sector and one that needs urgent attention.
The G20 Agreement Rightly or wrongly, the financial crisis of 2008 has
been largely blamed on the ‘opaque’ $700 trillion world of OTC derivatives. This opacity makes it nearly impossible for regulators and central bankers to estimate systemic risk, and thus make contingency plans for the failure of one or more key components of the financial system.
In September 2009, the G20 made a statement
on their intentions for the introduction of stronger regulation of OTC derivatives markets:
“All standardised OTC derivatives contracts should be traded on exchanges ... and cleared through a
central counterparty by the end of 2012 at the latest; OTC derivative contracts should be reported to trade
repositories; and non-centrally cleared contracts should be subject to higher capital requirements.”
In June 2010, this message was reinforced with the G20 intention to:
“Improve transparency and regulatory oversight of over-the-counter derivatives in an internationally consistent and non-discriminatory way.”
These statements led to the introduction of Dodd-
Frank in the US. Europe formed similar proposals, and by December 2010 the European Commission finished a consultation paper which led to a set of proposals for new legislation (Directives and Regulations). Initially, it was intended to put these proposals before the European Parliament from May 2011, so that implementation could complete by end-2013. However, given the complexity of the proposals, inevitable delays crept in. There is now a ‘pipeline’ of interlinked packages of
new legislation starting with regulations governing market transparency (REMIT) which came into legal force from 28th
December 2011, with others to
follow through 2012. – In January this year, oil, power and gas producers began to share commercially sensitive outage schedules on dedicated websites or using social media; – Gas producers such as Shell, BP, Centrica and ConocoPhillips showed details of planned spring and summer maintenance outages;
- Britain’s ‘Big Six’ utilities have also started making data available on planned power station maintenance and unplanned outages in order to increase information transparency.
March 2012 63
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