UPDATE 1-EU law to spur securities clearing competition

* Corporates win exemptions from mandatory clearing

* Links between clearers seen as key to ending fragmentation

* Draft says clearing ownership limits not right way to go

* EU states, European Parliament have final say on new rules

(Adds more details)

By Huw Jones

LONDON, Aug 31 (Reuters) - Clearing houses will have to forge links with rivals where customers want a wider choice of venues for trading stocks and bonds, according to a draft European Union law likely to take effect sometime in 2011.

The EU's executive European Commission's draft rules, a copy of which was obtained by Reuters, are primarily aimed at making the $615 trillion over-the-counter derivatives markets more transparent and safer in light of the financial crisis, particularly the demise of Lehman Brothers bank.

The draft law will implement global pledges made by the Group of 20 leading countries to centrally clear all standardised derivatives contracts, trade them on an exchange, where appropriate, and report transactions to a repository, all by the end of 2012.

"A uniform process at EU level is needed to determine which over-the-counter (OTC) derivatives are eligible for mandatory clearing through central counterparties," the draft law says.

A planned new pan-EU securities watchdog will play a central role in identifying which contracts must be cleared.

A clearing house is seen by regulators as helping to improve transparency and reduce risks by having a default fund so that trades are completed even when one side of a transaction goes bust.

The draft law also seeks to address fragmented EU market infrastructure that bump up costs for investors who want to trade in securities from several platforms.

It does this by creating a framework for "interoperability" or the linking of clearers of share, bond and money market instruments transactions.

"Interoperability is an essential tool to achieve integration of the post-trading market in Europe," the draft law says.

The draft law says that it was too soon to mandate interoperability for derivatives clearers but "this exclusion should not limit the possibility" of clearers entering such arrangements "in a safe manner", subject to strict conditions.

The EU executive's efforts to inject competition into clearing through a voluntary industry code of conduct signed in Nov. 2006 sparked over 80 formal requests but barely a handful of operational links due to regulatory and commercial barriers.

CLEARING EXEMPTIONS

Companies such as airlines and carmakers who use derivatives to hedge currency and other adverse price risks will also escape the heaviest burdens of the new rules such as mandatory central clearing of trades.

Such companies have lobbied hard for exemptions from mandatory clearing, saying they need bespoke rather than standardised contracts, and appear to have largely won the day.

"In concrete terms, this means that the clearing obligation will only apply to those OTC contracts of non-financial firms that are particularly active in the OTC derivative market and if this is not a direct consequence of their commercial activity," the draft law says.

"For example, this may be the case for energy suppliers that sell future production or commercial companies that must legitimately hedge the risk arising from their specific activity," it added.

Contracts that are not centrally cleared will have collateral and capital requirements.

The draft law also rejects any ownership limits on clearing houses, saying that "robust" corporate governance was the best way forward to deal with any conflicts of interest between stakeholders.

The EU's financial services chief Michel Barnier is due to unveil the draft regulation on Sept. 15.

The draft law may be changed when the Commission formally approves it next month. EU states and the European Parliament will have the final say and they are likely to make some changes.

The new law is in the form of a regulation, meaning it will be take effect immediately after final approval and therefore easily meet the G20 deadline.