European OTC clearing documentation faces delay

The publication of a standard legal contract for over-the-counter derivatives clearing in Europe will be delayed by up to three months, dealers say.

Banks, buy-side firms and central counterparties (CCPs) are struggling to find a common stance on close-out mechanisms, Europe’s diverse segregation models and how to tackle the region’s varying legal regimes.

The addendum – which will be attached to futures agreements or to International Swaps and Derivatives Association master agreements – was due to be released at the end of September. Dale Braithwait, global head of OTC clearing product development at JP Morgan in London, says he’s happy with the progress made, but discussions have slowed since buy-side firms joined the talks. “The number of members now on board makes for a more complex negotiation. I’d say it will get to a conclusion in two to three months,” he says.

One of the stumbling-blocks is the close-out language in the current draft, with participants divided on whether to copy the approach used in the US addendum, published on August 29. Jonathan Ching, a derivatives and structured finance attorney at law firm Jones Day in New York, says his clients – a number of buy-side firms – want to see the European contract mirror the US version, but have been meeting resistance from dealers.

“We can’t really pinpoint why. They say, ‘Well, the legal regimes are different’ but we don’t think the actual close-out mechanics matter. It shouldn’t matter what your local insolvency or local clearing house rules are because it’s simply about triggering an event of default, then taking actions in a reasonable manner. I don’t know if the issue is that we’re not speaking a common language, but we seem to be not fully connecting on that,” says Ching.

One dealer, however, says sell-side firms were not the only ones opposed to using the US close-out language. In order to move things forward, he says a large asset manager suggested text to keep the European close-out language simpler than the US agreement.

“A more simplified view was suggested by an asset manager and agreed by the group as a whole at the time, so it’s a bit frustrating to hear that someone thinks it’s the dealers pushing back on that, as actually it was one buy-side firm that wrote the current draft section,” the dealer says.

This kind of dispute has pushed the addendum off schedule, but the head of OTC clearing at one European bank says it should not be held up for long. “I don’t think there’s going to be the massive delays we saw in the US, where it kept on rolling for months and months,” he says.

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