by Michael Bontrager, Chatham Financial Founder and CEO




This week I had the privilege of moderating a panel at an event sponsored by the U.S. Chamber of Commerce called, “Over the Counter (OTC) Derivatives Reform: Preparing for a Changing Marketplace.” The Chamber organized this event to continue to facilitate discussion around how the Dodd-Frank bill could impact derivatives end users and what issues are most critical as we work through the rulemaking phase of the legislation.




CFTC Chairman Gensler gave the opening speech in which he repeated his view that the derivatives piece of the legislation is quite clear already, giving the impression that regulators simply need to put some details around the clear text of the bill. In the panel I moderated immediately after Gensler’s speech, we heard from treasury professionals from Disney, Boeing, IBM and Trustmark Corporation, who not only think the legislation is less than clear, but also think that critical issues remain open to interpretation. How certain words are defined could have a major impact on their firms and thousands of other end users around the country. In some sense then, with key terms yet to be defined, the rulemaking process becomes even more critical than the legislative process. It is definitely not just a matter of fine tuning.




Of particular concern is the question on margin for uncleared trades. While the legislation specifically exempts end users from central clearing, the language on margin is not as crystal clear. Knowing this, Congress went to great lengths to clarify that Congress did not intend for margin to be imposed on end users for their uncleared trades. But on Tuesday, Chairman Gensler intimated that he thinks he might still have the authority to impose margin on end users. To be clear, the CFTC is just one of three regulatory bodies that will decide whether margin can be imposed on end users. Still, it is concerning that after end users fought so hard to earn widespread agreement in Congress that end users must be exempt from margin requirements – whether for cleared or uncleared trades – that the imposition of margin on end users remains under consideration at the rulemaking phase.




As we have been arguing for more than a year, a margin requirement could be very damaging to corporate America and the economy at large. Over 90% of American companies in the Global Fortune 500 use derivatives to hedge away risks they don’t wish to retain. Requiring margin on these end users would divert huge amounts of working capital from new projects and investments that promote growth into margin accounts where it would sit idle as collateral for hedges. If end users are not exempted from margin requirements, companies will face the difficult decision between taking valuable working capital away from growth-producing functions OR not hedging, thereby subjecting their companies to volatile swings in costs, earnings and value due to FX, interest rate or commodity prices over which they have no control.




One of the panelists, Christine McCarthy, EVP and Treasurer at Disney said that if margin were indeed required, it would likely reduce the amount of hedging that Disney could do, increasing their risk profile and the volatility of their earnings. Another panelist, Tammy Evans, the Director of Global Funding, Investments and FX at IBM stated that they estimated IBM would need to set aside as much as $5 billion toward margin requirements, which is what they spend in acquisitions and new projects in an entire year. Do we really want the Disneys and IBMs of the world to halt or drastically reduce their plans for growth?




Certainly, if these companies actually created systemic risk, the greater good of protecting our financial security could justify this imposition. Indeed, that is the whole purpose behind the “major swap participant” category of firms that would be required to post margin for all of their derivative trades. But end user hedging has never created systemic risk. So there would be no appreciable benefit in the form of a reduction in systemic risk and the cost would be quite high – American companies could be less competitive in the global marketplace and the new investment and growth we so desperately need could be slowed dramatically.




On these and many other issues, the stakes of the regulatory rulemaking process are high. The issues at hand will have far reaching impact, not only on how companies manage their risks, but on global competitiveness. We are hopeful that the concerns companies have will be thoughtfully addressed in the coming months. With respect to the possibility that end users could be subject to margin, we remain hopeful that regulators will interpret their authority in line with Congressional intent. The letter from Chairmen Dodd and Lincoln to Chairmen Frank and Peterson establishes what was clear throughout the legislative debate – that Congress did not intend for margin requirements to apply to end users.




As you can tell, Chatham feels deeply about ensuring that companies are able to efficiently and effectively manage the uncertainties in their businesses. We have actively engaged with legislators, regulators and end users throughout the policy debate to advocate for reforms that address problems in the market that were revealed during the financial crisis and that ensure our economy and capital markets remain vibrant and competitive. If you would like to see highlights from the CSPAN coverage of the event, CLICK HERE.

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