Basel iii Compliance Professionals Association (BiiiCPA) www.basel-iii-association.com
The new regime willstrengthen the capital requirements for counterparty
credit exposures arising from institutions’ derivatives, repo and securitie
sfinancing activities.It will create the right incentives for banks to use CCPs wherever practicable, thus helpingreduce systemic risk across the financial system.Specifically, the objective of these amendments will be:1. Raise the amount of capital backing these exposures,2. Reduce procyclicality, i.e. dampen the impact of economic fluctuationthroughout the cycle and provide additional incentives to move OTCderivative contracts to central counterparties;In effect helping to reduce systemic risk across the financial system.
What are OTC derivatives?
A derivative is a financial contract linked to the future value or status of the underlying to which it refers (e.g. the development of interest rates orof a currency value, or the possible bankruptcy of a debtor).Over-the-Counter (OTC) derivative contracts arenot traded on anexchange(for example the London Stock Exchange) but instead privatelynegotiated between two counterparts (for example a bank and amanufacturer).OTC derivatives account for almost 90% of the derivatives markets.In mid 2010, the notional value of outstanding OTC derivatives was
around $583 trillion or €476 trillion.
At the same point in time, the notional value of derivatives traded on
exchanges was roughly $66 trillion or €54 trillion.