EU warned that cost of derivative sector reform should not fall on individual investors

News - Funds

Written by Ray Clancy

Monday, 23 August 2010 08:29

The Investment Management Association in the UK says it supports European Union OTC derivatives reforms but warns end users may be disadvantaged.

The body believes that further work is needed to ensure that costs and operational burdens are not unduly placed on actual investors but the principal of moving towards central clearing for OTC derivatives is a welcome development.

In its recent responses to the European Commission’s consultation on Derivatives and Market Infrastructures and to the Commission of European Securities Regulators’ (CESR) consultation on standardisation and exchange trading of OTC derivatives, the IMA is broadly supportive.

‘IMA members as the buy side of the market supports the move from bilateral to central clearing. However, central clearing could produce perverse results if the impact on the client side of the market is not fully addressed,’ said Jane Lowe, director of markets at the IMA.

‘The cost of central clearing should be proportionate to the risk. Unless the margin and collateral arrangements established within the central clearing houses (CCPs) are correctly calibrated, the cost of clearing will be borne disproportionately by the very people the legislation seeks to protect, that is the man in the street, through his pension, insurance endowment policy and savings in funds,’ she explained.

‘We urge the European Commission to widen the approach to collateral management so that long term savers are not disadvantaged by having to convert their portfolios into unproductive assets purely for collateral use. Retaining collateral within custodian accounts, subject to ring fencing, charge or pledge, should achieve the objectives of greater security, whilst reducing operational risk and cost to clients,’ she added.

‘Further, we urge the Commission to introduce mandatory segregation for all client assets and monies, so that this important element of investor protection is not left to purely commercial pressures.’

In its comments to CESR the IMA reiterated that regulators needed to do more work to ensure that the client side of the market was not disadvantaged by the work underway. Otherwise, the IMA supported the analysis provided by CESR into standardisation of OTC derivatives for the purposes of central clearing but, did not support regulatory action at this stage to mandate exchange trading, advising instead that this should be left as future possibility.

‘As regards standardisation for exchange trading, the aim should be to ensure that these contracts are truly fungible as this will pave the way for future market development. We believe that the timeframe for introducing product standardisation is tight and consider that the industry has enough on its hands without forcing the issue of exchange trading at this stage,’ said Lowe.