Background

Since the collapse of Lehman Brothers in 2010, politicians have wanted to bring the Over The Counter (OTC) derivatives markets under greater control. Their approach to this in the US Congress was to pass a long and complex reform law now referred to as the Dodd Frank Act, named after Chris Dodd and Barney Frank, the two senators who sponsored the bill. Having approved the Dodd Frank Act, the two major regulators, the Securities and Exchanges Commission (SEC) and the Commodities and Futures Trading Commission (CFTC) have been transforming the 2300 page law into practical rules to be implemented by banks and financial institutions.

Likewise in Europe, the political process resulted in the European Markets Infrastructure Regulation (EMIR). This is being translated into practical rules by the European Securities and Markets Authority (ESMA).

There are three major areas of change:

Trading of OTC products on fully electronic platforms (i.e. no “Voice” trading, for example).
Central clearing of OTC products
Reporting of OTC trades into new Repositories

A fourth area should also be considered:

Best Practice (“External Business Conduct“) rules

Each of these will have an impact on FX trading, however this page will only address the required Trading and Best Practice changes.

Also, whilst US and EU reforms are broadly parallel in nature, we should not assume that implementing one will satisfy the other. Eg Dodd-Frank requirements will satisfy EMIR requirements or vice versa.

The sections below set out a summary of the key requirements.

Dodd-Frank / SEF

FX NDFs are in scope.
FX Blocks, FX Swaps and FX Forwards arecurrentlyexempt from the trade execution, mandatory clearing and margin requirements.
FX Blocks, FX Swaps and FX Forwards are still subject to reporting requirements (met via Maker and Venue forwarding them on to the Trade repository held at the DTCC).
FX Blocks, FX Swaps and FX Forwards are still subject to Best Practice requirements (disclosure of pre-trade mid-market prices).

NOTE: The CFTC Division of Swap Dealer and Intermediary Oversight (DSIO) issued a no-action letter stating that DSIO will not recommend that the Commission take an enforcement action against a swap dealer or major swap participant for failure to disclose the pre-trade mid-market mark, as required by Regulation 23.431(a)(3), to a counterparty in a Covered Forex Transaction, provided that:

real-time tradeable bid and offer prices for the Covered Forex Transaction are available electronically, in the marketplace, to the counterparty; and
the counterparty to the Covered Forex Transaction agrees in advance, in writing, that the swap dealer or major swap participant need not disclose a pre-trade mid-market mark. The relief provided in the letter is applicable to all SDs and MSPs.

NOTE: Pre-trade mid-market quotation should not be required for FX deliverable forwards and swaps with a maturity date of one year or less and that involve a currency pair where both currencies are one of the top 13 deliverable currencies (by volume):

US dollar
Euro
Japanese yen
Pound sterling
Australian dollar
Swiss franc
Canadian dollar
Hong Kong dollar
Swedish krona
New Zealand dollar
Singapore dollar
Norwegian krone
Mexican peso

These 13 Currencies comprise the 13 most liquid currencies (excluding the Korean won, which is a restricted currency) of the set of 17 currencies settled on CLS.

Summary:

Makers must provide a Market Mid Rate on FX NDF quotes.
Makers may need to provide a Market Mid Rate on FX Blocks, FX Swaps and FX Forwards quotes. This will be either be because they cannot meet the terms of the no-action letter noted above, because the quote is for an illiquid currency pair, or because the FX Block or FX Swap includes a non-deliverable component.
Makers do not need to provide a Market Mid Rate on FX Spot quotes.
TBD - How do we provide a Market Mid Rate for a Cross? There is more than one ‘market’ here. Presumably we compute the cross based on the mkt rates of each component, and take the mid of that?

Requirements:

Allow Makers to compute and store the Spot Market Mid Rate on all quotes for all product types.
Allow Makers to compute and store the Fwd Market Mid Rate on all legs for all quotes for all non-Spot product types.
Where venues allow, the computed Market Mid Rate must be included in the Maker's pre-Deal quote stream.
The Market Mid Rate values associated with the traded Quote will be stored alongside the Deal details for every requested transaction. NOTE: This is in addition to the Market Rate information prevailing at time of execution, which is also captured.

EMIR

All FX Derivatives are in scope (TBD).
Trading compliance required in 2014 (TBD).

MiFIDII

TBD

Regulatory Requirements