Singapore May Emerge as Derivatives Winner

The slow and tortured progress of derivatives reform in Asia may prevent fragmentation and allow Singapore to establish itself as the region’s clearing hub, says John Warren, head of Post-Trade in Asia for technology vendor Sungard.

Delays to the implementation of the G-20-mandated overhaul of OTC derivatives trading have been multiple, each having slightly different impacts along the transaction value chain. When regulatory consultations on the introduction of central clearing drag on, as they have across the globe, users of derivatives generally have have more time to adapt their processes and systems. But the clearing brokers, central counterparties (CCPs) and trading venues have much longer to wait before they can realize the revenues they have invested to attract.

The latest significant delay came last month when new global rules for initial and variation margin payments for non-cleared derivatives transactions were put back nine months from December 2015. Under a framework created by the Basel Committee on Banking Supervision and the International Organization of Securities Commissions, both parties to bilateral swaps and other OTC derivatives deals will be required to post initial and variation margin in accordance with global guidelines, albeit interpreted by national regulators.

Sungard’s Warren says the longer timeframe can be beneficial if used constructively. “Asia is a large and diverse OTC derivatives markets, so a nine-month delay to the introduction of new concepts is likely to have a favorable impact on the buy-side – so long as it is used to clarify and to educate,” he warns.

Regulators are expected to use the respite to finalize key elements of the new regime, such as the technical standards for the amount and quality of collateral needed to support trades, as well as rules on recycling collateral. While new variation margin rules will now apply from either September 2016 or March 2017, depending on the scale of a firm’s derivatives trading activity, the earliest market participants will have to fully comply with the new initial margin rules will be August 2017.

The slow migration of major Asian jurisdictions to central clearing for high-volume, standardized derivatives may also be beneficial, suggests Warren. Australia, Hong Kong and Singapore are still consulting on their central clearing rules, but the deliberate process followed by local regulators may have the effect of reducing the risk of potentially costly fragmentation, leaving only the providers with the most robust business models to share the eventual spoils.

“Asia can only support a finite number of clearing houses, meaning that consolidation is widely expected at some stage in the future,” says Warren. “CCPs with an existing value proposition are very well positioned. There is a strong demand for more exchange-traded derivatives to be cleared in Asia, as opposed to Europe or the US, but firms are neutral as to which jurisdiction.”

In January, Deutsche Börse received regulatory clearance in principle from the Monetary Authority of Singapore (MAS) to establish a clearing house in Singapore. Now expected to go live in 2016, Eurex Clearing Asia will clear European benchmark derivatives listed on Eurex in Frankfurt, but traded in Asian business hours, before also clearing derivatives based on Asian assets. Although implementing legislation for central clearing for OTC derivatives is only scheduled to come into force by the end of 2015, it is assumed that all exchange groups planning to establish clearing houses in Singapore have future ambitions to clear OTC derivatives as well as listed instruments.

IntercontinentalExchange Group, which operates derivatives exchanges and clearing houses in the U.S. and Europe, also has a licence to trade and clear in Singapore, following it acquisition of Singapore Mercantile Exchange. But the Atlanta-headquartered group postponed the scheduled 17 March launch of its Singapore-based Asian trading and clearing operations after Chinese regulators said use of Zhengzhou Commodity Exchange’s settlement prices as a reference for cotton and sugar futures listed on ICE Futures Singapore was a breach of copyright.

CME Group recently ramped up its ambitions in the region with the appointment of Christopher Fix, formerly CEO of the Dubai Mercantile Exchange, as its head of Asia Pacific. Fix will be based in Singapore and will lead the efforts of the US derivatives exchange operator to develop benchmark products and services in the region. Meanwhile the incumbent Singapore Exchange has been investing heavily in its OTC derivatives clearing capabilities for the last five years and in Q4 2014 announced a major revamp of its derivatives trading and clearing technology.

“MAS is not approving CCPs on the basis of OTC business alone,” observes Warren. “It sees an opportunity for Singapore to establish itself as Asia’s clearing hub. If Singapore can fulfill that role, it might be difficult for other jurisdictions to compete subsequently. This could be beneficial to Asian market participants as it will prevent fragmentation. The CCPs that have already stepped into the Asian market have natural exchange-trade derivatives business and can expand into the OTC space, offering cross-margin opportunities in due course.”