From the March 2013 Special Report issue of Treasury & Risk magazine

Will Dodd-Frank Alter Corporate Hedging?

New rules will boost costs for swaps dealers. As dealers pass those costs on to end users, companies could decide to change the way they hedge.

As Congress enacted the Dodd-Frank Act of 2010 and regulators wrote rules to implement the changes it mandated in over-the-counter derivatives trading, companies have been lobbying long and hard to protect their ability to use such derivatives to hedge their risks. And while they won the battle, they may have lost the war.

As the Dodd-Frank rules and other regulatory changes take effect for dealers, the cost of using OTC derivatives is expected to rise, a development that could push corporates to alter the way they hedge in spite of the exemption they won from many Dodd-Frank rules.

Collateral

Corporate end users have many alternatives to consider in the face of rising swap spreads, said Edward Heitin, a partner at PwC. “While they can certainly continue to trade over-the-counter bilaterally with their swap dealers, if the increased spreads are too great, they can explore trading their derivatives on exchanges and swap execution facilities (SEFs), and clearing their derivatives through clearing organizations as ways to keep their costs down,” he said.

Fine-tuning OTC trades

Rather than struggle with the accounting implications of exchange-traded products, companies might try to fine-tune the way they use OTC products to lessen the impact of price changes.

Banking Relationships

Deloitte’s Sinha pointed out that because companies generally transact OTC derivatives with their banks, the trades are part of a broader relationship that includes the company’s credit facilities, which could influence way both end users and their banks respond to changing regulations and higher costs.

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