| HONG KONG/SINGAPORE
HONG KONG/SINGAPORE Nov 25 Several Asian and
U.S. banks are working around new U.S. regulations on
derivatives trading aimed at preventing a repeat of the 2008
financial crisis - moves that are legal but leave markets in the
region exposed to a risky liquidity shortage, traders and
U.S. regulators are pushing to move much of the $693
trillion over-the-counter derivatives market to new electronic
platforms known as Swap Execution Facilities (SEF), which will
increase transparency and help prevent the recurrence of the
2008 crisis. The SEFs started trading on Oct 2.
But dealers estimate only 10 to 20 percent of Asia's daily
market turnover in currency and interest rate derivatives -
estimated by derivatives traders in the region at about $20
billion - has moved to the SEFs with the rest being settled in
the wider market or bilaterally. The fragmentation of liquidity
has made it difficult for investors to hedge portfolio risk,
especially for large trades.
Asian participants say they are not legally bound by the
rules drawn up by the Commodities Futures Trading Commission
(CFTC), the main U.S. derivatives regulator. But any trades with
U.S. counterparties will have to be on SEFs if their deals with
American entities exceed $8 billion over the preceding 12
"We have shifted away from dealing with U.S persons although
we have not forbidden our staff to trade with them altogether -
if you have to do it you have to do it, but if you have an
alternative then go for that as we would like to keep under the
CFTC minimum threshold," said Frederick Shen, head of global
treasury business management at Oversea-Chinese Banking Corp Ltd
(OCBC) in Singapore.
Trading on the SEFs will mean more disclosure and other
regulatory requirements in addition to more costs. So many Asian
banks now prefer to trade derivatives with non-U.S.
counterparties, or look to settle trades bilaterally.
"One of the issues with SEFs is because you are going
through a broker, they are likely going to charge you more on a
SEF because they've got additional reporting requirements. They
typically have to outsource that work, so they pass on the
additional cost," Shen said.
U.S. banks, worried they may be shut out of the growing
Asian swaps and derivatives market, are employing methods that
will avoid the rules but are legal.
Citigroup, Goldman Sachs and Morgan Stanley
are offering their London subsidiaries for Asian
counterparts to settle trades, said derivatives dealers in
Singapore, Hong Kong and Seoul who are involved in the trades.
JP Morgan is taking advantage of a carve out that
allows it to route trades with non-U.S. counterparties via its
Singapore branch and still not be caught by the rules, they
Goldman Sachs, Citigroup, Morgan Stanley and JP Morgan all
declined to comment for this article.
Late last year, Reuters reported that U.S. banks such as
Morgan Stanley and Goldman Sachs were explaining to their
foreign customers that they could avoid the rules by routing
trades via the banks' non-U.S. units, according to industry
sources and presentation materials.
"Some U.S. banks have restructured and set up London offices
and asking us to go through them," said OCBC's Shen.
While these patchwork solutions have kept the mammoth
derivative markets working for now, market watchers say they
have kept them vulnerable to a sharp selloff - the very outcome
regulators are trying to prevent.
"Splintering market liquidity has made markets more
vulnerable and we are deeply concerned with these developments,"
said Mark Austen, CEO at Asian Securities Industry and Financial
Markets Association (ASIFMA), an industry body. "We wish
regulators could have taken a more coordinated global approach
on this issue."
Europe is not expected to implement rules forcing trades on
to electronic platforms until 2015 at the earliest while Asian
regulators have not set out any immediate plans to bring in such
Regulators fear a "Balkanization" of the market and the
likelihood that more transactions will be done outside of SEFs
will undermine the transparency that the rules were supposed to
While routing trades through U.S. banks' offshore offices
have worked for now, traders in South Korea said different
interpretations of the overseas subsidiaries of these banks have
raised uncertainty and damaged market liquidity.
Asian markets have already had a whiff of things to come.
When the CFTC began implementing the new rules on Oct. 2,
Korean and Indian offshore derivatives markets, where U.S. banks
have a sizeable presence, wobbled.
Earlier in the year, concerns that the U.S. Federal Reserve
would hike interest rates sent Asian markets skidding even
though net outflows were only about $85 billion according to
Thomson Reuters data, a fraction of the trillions of dollars
that have gone into Asian markets since 2009.
A source at a U.S. bank in Seoul said that half of its
existing counterparties label U.S. banks as "bad names" or not
appropriate for trading. As long as uncertainty remains about
implementing these rules on a global basis, local counterparties
will shun these banks, the source said.
"One of the things that has happened in Asia is liquidity in
these products has shifted to the London opening hours than in
the Asian time zone as market participants expect European-based
entities to step in provide more liquidity " said Keith Noyes,
regional director of International Swaps and Derivatives
Association, a derivatives body, for Asia in Hong Kong.
"We are going to end up with bifurcated markets with the
U.S. and the non-U.S. market."