Clearing Obligation: Revision of FMIO-FINMA
Standardized OTC interest-rate and credit derivatives will be the first derivative products to be subject to clearing. The definition of the relevant categories of affected products (i.e., derivatives that are not traded over a stock exchange or a multilateral trading facility) that will, for the first time, be subject to a clearing obligation is currently being determined by the Swiss Financial Market Supervisory Authority ("FINMA") in the consultation process. This clearing obligation contains the duty to clear trades involving FINMA-designated categories of OTC derivatives through central counterparties ("CCP") that FINMA has either authorized orrecognized. The categories will be aligned with European law to ensure equivalence – derivatives in Switzerland are predominantly cross-border trades, which are often carried out with market participants whose registered offices are in the EU. For implementing the clearing obligation, FINMA has revised Annex 1 of its Financial Market Infrastructure Ordinance ("FMIO-FINMA"). Currently, the consultation process for this revision is pending and will end on Monday, 12 February 2018.
Addressees of the clearing obligation
The clearing obligation affects financial counterparties that are not small ("FC+") and non-financial counterparties that are not small ("NFC+"), both of which have their registered offices in Switzerland. FC+ and NFC+ furthermore must comply with the clearing obligations in cross-border business with foreign trading partners. This duty does not apply to transactions with small counterparties or for transactions between such counterparties.
Fulfillment of the clearing obligation
The clearing obligation is met by the FC+ and NFC+ by using CCP. The CCP functions as a contract party between a derivative’s buyer and seller. The CCP guarantees in this way that the obligations of the buyer and the seller are fulfilled, whereby FINMA basically needs either to authorize the CCP in case it is a Swiss CCP or to recognize the CCP in case it is a foreign CCP. Trading through a CCP reduces the default counterparty risk to ensure financial market stability.
Categories of OTC derivatives subject to the clearing obligation
Pursuant to article 101 para. 1 of the Swiss Financial Market Infrastructure Act ("FMIA"), FINMA determines the derivatives that must be cleared via a CCP. Due to this provision, FINMA has revised Annex 1 of the FMIO-FINMA. As most Swiss market participants trade derivatives on a cross-border basis (in particular with EU market participants), the Swiss regulations concerning derivatives trading are oriented primarily to EU law (i.e., EMIR and associated implementation provisions), including the FMIO-FINMA Annex 1 draft.
OTC Interest-rate derivatives
According to the draft of Annex 1 of the FMIO-FINMA, the categories of interest-rate derivatives, soon to be subject to a clearing obligation, comply with these categories in the EU in terms of the most important trade currencies. Interest-rate derivatives that are settled in Swiss francs (CHF) are not subject to the clearing obligation. However, FINMA has announced that a clearing obligation for interest-rate derivatives with CHF settlement might be introduced at a later stage (depending on the international legal development and global standards).
OTC Credit derivatives
Also, the credit derivatives categories subject to the obligation duty, according to the FMIO-FINMA Annex 1 draft, are aligned with these categories, subject to the EU clearing obligation.
The entry into force of Annex 1 of the FMIO-FINMA depends on FINMA recognizing the relevant CCP for clearing. Upon the entry into force of Annex 1, the transitional periods will range from six to 18 months, before standardized OTC interest-rate and credit derivatives will need to be cleared.