If it looks like a duck

Dividing derivatives contracts into over-the-counter and exchange-traded would seem to be a simple task, but this is far from true. Thanks to EMIR’s definition of ‘on-exchange‘, contracts that are traded on anything other than a regulated market (RM) will be considered OTC regardless of whether they are traded on an MTF or are economically equivalent to the on-exchange contract. To highlight the issue, ESMA, in its most recent discussion paper on clearing obligations for OTC derivatives, coined the term ‘forward/swap’ for the OTC version of an on-exchange future. It certainly seems odd that these contracts are regulated differently, not only by virtue of their contract design and the way in which they are traded, but also based on the legal status of the multilateral venue, whether RM or MTF.

We can see similarities in the US around swaps vs. futures. Once again regulators treat economically equivalent swaps and futures differently from each other, which in itself is cause for serious debate across the industry. However they are treated, managing order flow between similar instruments across multiple trading platforms presents some significant challenges.

With the legislators’ tendency not to regulate the same business with the same rules, market participants will have to come to terms with the fact that even if it looks like a duck, swims like a duck, and quacks like a duck, the regulators might decide it’s probably an elephant.