Presently, OTC derivatives with their underliers listed on the International Financial Services Centres (IFSC) stock exchanges are not permitted. However, there has been growing interest from domestic and international stakeholders to have a framework for bespoke OTC derivatives in India. The International Financial Services Centres Authority (IFSCA) recently proposed draft guidelines in a consultation paper (CP) to permit only registered IFSC banking units (IBUs) and broker dealers to issue OTC derivatives.
IFSCA suggests a framework for reporting and clearing OTC derivatives in the IFSCs, which is restricted to the issuance of OTC derivatives (e.g. forward, total return swaps etc.) with certain underliers. Industry feedback regarding the expansion of the class of issuers of derivatives, permitting bilateral OTCs, appropriate capital thresholds for non-bank issuers and operational timelines has been invited.
What are the International Financial Services Centres?
Essentially it is a special economic zone to provide internationally targeted financial services in a separate regulatory environment to India. These special economic zones, including GIFT City, have their own regulator, the IFSCA.
Guidelines
The draft Guidelines focus on the following key areas:
1. Eligible Derivatives
The framework applies to ‘Specified Derivatives Contracts’ (equity or credit derivatives) which are booked in IFSC and where the underlying security is listed or traded on a recognised stock exchange in IFSC (i.e. only bonds or equities) or a regulated foreign stock exchange. Exchange traded derivatives as currently allowed under the existing IFSCA regime, will still remain in the framework.
Note ‘booked in IFSC’ is the location of the entry of the relevant contract on the books of a person (where the person is a party to the contract or whose place of business on the books is in IFSC).
2. Specified Persons
As mentioned above, eligible issuers of OTC derivatives will be restricted to IBUs and broker dealers that are registered in the IFSCA (referred to as ‘Specified Persons’ in the CP). Feedback is sought as to whether this should be extended out to include other classes of regulated entities within the IFSC.
3. Real time trade reporting
Specified persons are to report the information relating to the Specified Derivative Contract booked in IFSC in the form as specified by the IFSCA or the relevant trade repository – such reporting is to be done on the same day the transaction has been executed and both parties are to do the reporting.
4. Mandatory central clearing
The framework proposes that all OTC derivatives be centrally cleared. This is to be done through a recognised clearing corporation within one business day. IFSCA requested feedback from industry as to whether the counterparties to a trade should be given the option of bilateral clearing and if so, what the margin requirements should be.
5. Capital requirements
The framework proposes to have minimum net worth thresholds for issuers that are non-banks so as to have financial stability and to limit participation to entities that are regulated with sufficient capital.
6. Other conditions
OTC derivatives that are ‘issued should have a one-to one correspondence with the underlying security’. Issuers are not to issue OTC derivatives unless they hold the underlying security or an offsetting position of such security. Note that netting across positions will not be permitted.
The intent of IFSCA in updating the regulatory reporting framework in India, as proposed in the CP, is to produce a clear and controlled direction in introducing OTC derivatives in Indian IFSCs. The CP aims to enhance the Indian IFSC so it can be a globally competitive financial centre for OTC derivatives and financial markets. Many of the themes addressed in the Guidelines are reflective of strategic alignment with other global trade reporting requirements such as EMIR and Dodd Frank. This includes the expansion of the issuer class beyond IBUs and broker dealers, setting net worth thresholds, requiring mandatory clearing and same day trade reporting and allowing bilateral OTC transaction with certain conditions. If the Guidelines are adopted, the proposals raised for the updated Indian framework are expected to significantly reshape the Indian financial markets landscape.
How can TRAction assist?
Should you need further clarification on which trade reporting regime applies to you or wish to have more information on updates to regulations on trade reporting such as the IFSC reporting framework, please get in touch with us.
