Surveying Local Derivatives Markets

ISDA Chief Executive Officer Scott O'Malia offers informal comments on important OTC derivatives issues in derivatiViews, reflecting ISDA's long-held commitment to making the market safer and more efficient.

By enabling firms to manage their risks and create greater certainty and stability in their business, derivatives can boost economic growth and contribute to capital markets liquidity in emerging market and developing economies (EMDEs). However, a range of legal, regulatory and risk management issues must be addressed to promote the development of safe and efficient local derivatives markets. To better understand those issues, ISDA undertook a survey of EMDE jurisdictions that provides valuable information to support the development of derivatives markets in those countries.

This survey is the latest step in ISDA’s long-running work to support and bolster local derivatives markets around the world. In May 2022, we published a whitepaper that outlined the issues policymakers should consider to develop an effective framework for derivatives trading. We’ve engaged with the International Organization of Securities Commissions and various international financial institutions on those issues, which include the enforceability of close-out netting, as well as a range of other regulatory and risk management considerations.

Last year’s paper provided a constructive baseline for the key issues, but no two EMDE jurisdictions are the same. Every country is at a unique stage in the development of its economy, financial market and regulatory and policy frameworks. That’s why a more granular analysis of the state of play in individual markets was also needed. To that end, ISDA engaged with legal counsel in 44 EMDEs, including 12 from Latin America and the Caribbean, 11 from Asia, eight from Sub-Saharan Africa, eight from Europe and five from the Middle East and Central Asia.

The survey starts with the legal enforceability of close-out netting, which is an indispensable ingredient for a robust, liquid derivatives market in any country. By allowing parties to reduce their obligations to a single payment in the event of a default, netting drastically reduces credit risk, deepening liquidity and enhancing credit capacity. ISDA has published netting opinions in 22 of the 44 jurisdictions included in the survey, while collateral opinions have been published for 16 jurisdictions and a further two have been commissioned. It is also encouraging that counsels in seven jurisdictions, including Bulgaria, Ethiopia and Pakistan, are expecting legislative changes that could positively impact netting or collateral arrangements.

While progress on netting and collateral is welcome, regulations in some EMDE jurisdictions may constrain the growth of derivatives markets. For example, the survey shows there are restrictions in place on the types of entity that can use derivatives in 19 out of 44 countries, while nearly half of the jurisdictions surveyed require some kind of registration before a firm can engage in derivatives activity. The survey also delved into the implementation of regulatory reforms. Of the 44 jurisdictions, 17 have reporting requirements in place, six have implemented mandatory clearing and nine have margin requirements for non-cleared derivatives.

The report is clear that some policy measures and regulatory requirements won’t make sense in certain countries. For example, registration requirements in markets with low levels of derivatives activity could negatively impact liquidity and stability. Introducing mandatory clearing and margining might also not be appropriate in jurisdictions with relatively small derivatives markets. In all markets where the enforceability of close-out netting is not recognized in law, this should be the primary focus before other measures are considered.

Based on our analysis of the status quo in all 44 participating jurisdictions, the report makes a series of recommendations for how policymakers should approach the key legal, regulatory and risk management issues. We hope this will be a valuable resource and will continue to work closely with practitioners and regulators around the world to take the necessary steps to develop safe and efficient local derivatives markets.

Read the report: ISDA Survey on OTC Derivatives in Emerging and Developing Markets

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