Enhancing transparency for swaps

Excerpts from remarks by Mary L. Schapiro, chairman of the Securities and Exchange Commission, before the Oct. 26 Regulatory Reform Symposium of the George Washington University Center for Law, Economics and Finance:

Unfortunately, as we found during the financial crisis, firms that entered into (over-the-counter) derivative transactions to reduce their market risk had simply swapped one risk for another — market risk for counterparty risk. Opacity in the markets made it such that firms could not be sure that the counterparties to their swaps would be able to make good on their transactions if circumstances demanded.

In fact, as more and more OTC derivatives were transacted across the system, an elaborate network of risk was built up. ...

This type of cross-firm connectivity has the ability to greatly magnify the systemic shocks of a significant default by any single firm. ...

Title VII of (the Dodd-Frank Wall Street Reform and Consumer Protection Act) addresses challenges in the OTC derivatives market by closing the gap created by the Commodity Futures Modernization Act and bringing the OTC derivatives market into the daylight. ...

A report released by a major market participant last year underscores the benefits of bringing financial fundamentals into this market: It predicts that the market for interest rate and credit default swaps will grow by more than 10% by 2013. “Notional values in derivatives ... are expected to rise, due to increased transparency and counterparty risk mitigation,” reads the report.

Instead of transacting business behind closed doors, this new system will require certain transactions to be conducted on a public trading platform. Once a transaction has occurred, the rules will require information about the trade to be reported to a data repository, and in turn that information will be shared with the public. ...

Read the complete transcript of Ms. Schapiro's remarks at the SEC's website

This article originally appeared in the November 26, 2012 print issue as, "Enhancing transparency for swaps".