The U.S. Commodity Futures Trading Commission (CFTC) is unlikely to close foreign loopholes used by Wall Street to help its offshore clients evade new rules governing swaps and the $640 trillion OTC derivatives market.
On Nov. 29, the CFTC finalized new rules that bring interest rate and credit default swaps (CDSs) into clearing by derivatives clearing organizations (DCOs). A week prior, the CFTC issued a common date by which all entities must register as swap dealers. As it stands, an entity must register as a swap dealer within two months of exceeding a notional threshold of $8 billion; now, after a no-action order, all firms that exceed the threshold must be registered by April 10, 2013.
In response to these recent regulations, and regulation looming on the horizon, Wall Street Banks have begun advising their clients to skirt U.S. rules by redirecting trades through their foreign subsidiaries, according to Reuters.
Specifically, the rules these foreign clients are looking to avoid include higher capital requirements, margin costs, an immediate turn to electronic platforms, and swap reporting.
Yet if routing trades through a foreign subsidiary, for example Goldman Sachs International, based in London, allows for entities to avoid counting swaps toward the $8 billion dollar threshold, it may not be a sustainable solution. Although the CFTC has made it clear that dealing with a foreign affiliate will not count against the threshold, it’s only a matter of time before financial regulation in the U.K. and broader Europe catches up to recent U.S. standards.
It may be unlikely that the CFTC will close the exemption for foreign affiliates. It doesn’t want to step on foreign toes in matters of extraterritoriality; instead, it will likely wait for foreign regulators to catch up.
“Swaps executed offshore by U.S. financial institutions can send risk straight back to our shores,” said CFTC chairman Gary Gensler this summer. “It was true with the London and Cayman Islands affiliates of AIG, Lehman Brothers, Citigroup and Bear Stearns.”