By the time you read this, major legislation affecting trading may have already passed through the Senate. The Wall Street Transparency and Accountability Act of 2010, approved by the Senate in late April and debated by the Senate in early May with possible passage in late May, requires most over-the-counter (OTC) derivatives contracts be traded on exchange and cleared, requires mandatory clearing of swaps, requires real-time price reporting, and regulates foreign exchange transactions.
One portion of the bill that seemed to be losing support was the provision that would prohibit the Federal Reserve and FDIC from providing any federal funds to banks who engaged in derivatives trading, thereby requiring banks to spin off their derivatives business to retain FDIC insurance.
“Its chances of passing are quickly diminishing," says Willa Bruckner, partner at Alston & Bird. “I don’t see what the value is of the provision. There are other ways of getting at the concern that banks will be engaging in activity that’s considered to be risky with respect to funds of depositors.”
Gary deWaal, general counsel at Newedge, says the proposal is likely to be taken off the table unless there is international coordination, and currently there’s no consensus internationally. “Folks are very concerned [about how it will affect] the overall markets and liquidity. If you split these institutions up into a banking side and a trading side, it will increase demand for liquidity at a time when the economy is just beginning to recover and liquidity is just beginning to open up again. There are a lot of people who believe this could hurt in the short term,” he says.
Many of the aspects of the bill will affect the way traders do business. “The nature of transactions that traders may be doing will shift more towards the standardized and away from the structured transactions,” Bruckner says. “There are going to have to be separate procedures for security-based swaps vs. other kinds of swaps. There are all kinds of reporting requirements that are going to come into play, different kinds of margining requirements.” She says that real-time reporting requirements could make it more difficult for financial institutions and traders to hedge their positions effectively.
DeWaal says it’s difficult to predict how the marketplace will respond. “Putting clearable products on exchanges could increase liquidity because you’re going to have participants in the marketplace who aren’t there today. On the other hand, not everything is standardized and it’s not clear how taking a product off the OTC market and putting it on exchange might affect some of those more particularized products,” he says.
Either way, the legislation will mean changes for traders. “Traders will have to pay more attention to internal procedures and talk to their lawyers a lot more,” Bruckner says.
An amendment to the bill by Senator Jeff Bingaman (D-NM) would threaten the CFTC’s authority over natural gas and electricity futures, swaps and options markets and would give the Federal Energy Regulatory Commission the authority to supersede the CFTC’s regulatory judgment on these markets, according to a letter sent to Congressional leaders on May 11 by a coalition of market participants opposed to the amendment. The coalition includes the Futures Industry Association, CME Group, the Intercontinental Exchange, the Commodity Markets Council and Managed Funds Association. The letter said the amendment would “lead to an additional, costly, and unnecessary regulatory burden that provides no tangible benefit to markets or investors” and “may lead to agency competitiveness and regulatory arbitrage.”