Much has been written about the possible implications of recent regulations on companies that use derivatives to hedge foreign exchange, interest rate, and other risks. Shortly after the Dodd-Frank Act passed in 2010, corporate treasurers began voicing concerns about how the law would affect their derivatives programs. Non-financial institutions are exempt from many of the key provisions, but that doesn’t mean they won’t feel an impact. Treasurers feared that Dodd-Frank, in conjunction with Basel III and other recent regulatory changes around the world, would increase both derivatives prices and the complexity of hedging financial risks.
For the past three years, hands have been wrung and keyboards have clicked to the beat of the war drum, sounding alarm about the problems that the regulations might create the market. Nevertheless, little time has been spent investigating how regulations are actually affecting derivatives end users. That’s what Treasury & Risk set out to do this fall in a research project sponsored by PwC. We polled 196 Treasury & Risk readers to determine whether their fears about Dodd-Frank and other derivatives regulations have come to fruition.
Although fewer than one in 10 companies has already reduced its hedging volume, that isn’t the whole story. Around 3 percent of survey respondents have modified their non-derivative arrangements to reduce their use of derivatives. Twelve percent said they’re analyzing their exposures in more detail to determine whether they can reduce their reliance on the instrument. Eight percent said they’re moving to shorter-duration derivatives, and another 8 percent have modified the types of derivatives they use.
Nevertheless, only 1.4 percent of end-user respondents said that they’re moving away from using derivatives altogether for financial risk management. (see Figure 4, below).
A good alternative to using choosing between OTC derivatives and those traded on a SEF or exchange might be to combine the two approaches. A company might save money if it used SEF- or exchange-traded derivatives to hedge those risks that standard financial instruments can address. Then it could turn to the OTC market to hedge more unique exposures.
What are derivatives end users’ biggest concerns going forward? One-quarter are frustrated by the lack of clarity on how different governments will coordinate the regulation of cross-border trades. Almost 10 percent have a similar complaint about the lack of clarity around margining and collateral requirements, while 14 percent are concerned about the changes to operations and working capital management that they would need to undertake to post collateral. Twenty percent cited higher prices as their top concern. But the largest proportion of end users (27 percent) said they simply don’t have the time or internal expertise to deal with all the regulatory changes in the derivatives market.
That frustration dovetails with respondents’ viewpoint on the benefits of derivatives regulations overall. Most agree at a high level that Dodd-Frank, Basel III, and the other regulations affecting derivatives markets have some value. One treasurer even stated that governments “should have gone farther with regulating this marketplace.” But the vast majority of the survey’s corporate respondents wish they weren’t affected by the tightening oversight. Twenty percent called the regulations “unnecessary and intrusive.” Another 41 percent said that the rules are necessary for financial companies, but that requiring changes for end users of derivatives was an overreach (see Figure 7).