ISDA members are overall supportive of ESMA’s consultation on adapting the derivatives clearing obligation (CO) in the context of the on-going interest rate benchmark reform. We also welcome that this consultation allows us to feed into the process again.
ISDA members acknowledge the benefits of central clearing, as demonstrated by the current clearing rates for risk free reference rate (RFR) swaps. We believe that introducing a CO for these products could be a helpful tool for avoiding liquidity fragmentation.
We welcome that ESMA is trying to provide sufficient notice for firms to get prepared for the changes.
Regarding ESMA’s proposed Derivatives Trading Obligation (DTO) mandate adjustments, ISDA members request that ESMA does not introduce swaps referencing any new RFR, including €STR, in the EU DTO until the new DTO suspension mechanism, as proposed by the European Commission (EC) as part of the on-going MiFIR review, is fully enforced, especially knowing that there likely seems to be a political consensus on this specific topic. It would not be appropriate given that the MiFIR review is trying to solve a well-documented and acknowledged existing issue that could only be unnecessarily amplified by adding more swap classes to the DTO without a proper permanent solution in place. We are therefore concerned that adding these swaps prematurely will only amplify an existing issue for which the EC is trying to provide a solution post-Brexit. This could be exacerbated as the structure of the proposed variations of €STR swaps proposed for the DTO is complex and it is not clear whether all combinations (constant notional and 3-months tenor and trade start date Spot (t+0)) proposed in the consultation will be sufficiently liquid under all market conditions.
As demonstrated in our paper “Demystifying Derivatives Trading in the EU” , market participants voluntarily trade on venue. The report states that the total interest rate derivatives notional traded on trading venues (TVs) was more than double the notional of IRD transactions subject to the DTO. Therefore, it would not pose a risk to financial stability if €STR contracts were not added to the DTO before the suspension mechanism is in place.
We believe that transactions stemming from Post Trade Risk Reduction (PTRR) exercises should be exempt from the CO, to enable market participants to manage the risk in their uncleared portfolios.