19 Jul 2013

Mandatory central clearing for foreign currency-denominated derivatives the next step for Australia?

The regulation of the Australian OTC derivatives market continues to evolve. The next step may be the introduction of a central clearing mandate for interest rate derivatives denominated in US dollars, pounds sterling, euros and yen.

That is the only firm recommendation in the Council of Financial Regulators' latest report on the derivatives market. Other possible changes, such as mandatory central clearing of AUD-denominated interest rate derivatives and mandatory platform trading, are slated for further investigation before the CFR decides on a policy recommendation.

The decision to recommend mandatory central clearing for foreign currency-denominated derivatives, but not AUD-denominated, is based on two factors: practicality and policy.

The practical issue is that Australian institutions already have considerable dealings in derivatives denominated in those currencies. As a result, they are already subject to the mandatory central clearing requirements of those currencies' home jurisdictions. The CFR therefore believes that the Australian imposition of a central clearing mandate will not markedly increase the compliance burden on Australian dealers. The same, of course, is not true of AUD-denominated derivatives.

On the domestic front, the CFR prefers what it calls "an incentives-led transition to central clearing", rather than the immediate imposition of mandatory central clearing. To that end, it will continue to monitor Australian banks' progress towards a clearing system before recommending mandatory central clearing. It indicates that, as a first step, any mandate would be restricted to the inter-dealer market. Before extending that mandate to non-dealers, the CFR would closely examine the attendant costs.

Other "wait and see" topics addressed by the report include platform trading (where the CFR will monitor both overseas' developments and the results of our new mandatory trading regime) and risk-management for non-centrally cleared trades.

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Clayton Utz communications are intended to provide commentary and general information. They should not be relied upon as legal advice. Formal legal advice should be sought in particular transactions or on matters of interest arising from this communication. Persons listed may not be admitted in all States and Territories.