Are you sitting in your compliance armchair thinking the regulators are all done tinkering with Position Limits? If so, perhaps it is time to think again. Why? Well, if we look at just the changes floated in 2022 alone, it was quite the turbulent year for Position Limits monitoring and suggests it might just be a bit more onerous than it seems at first glance. So what did you miss?
As part of the Dodd-Frank Act, US Congress reinvigorated the CFTC’s jurisdiction over derivatives contracts and since that time the CFTC has worked, and continues to work, to find workable position limits. To that end, position limit changes started off with a bang in 2022 as compliance became even more complex on New Year’s Day with introduction of the CFTC’s Final Rule.
The Mifid II Quick Fix
One of the key elements of the Quick Fix, which came into effect at the end of February 2022, was to address the concerns around the inflexibility of the position limit regime in Mifid II. By now applying position limits only to significant or critical commodity derivatives that are traded on trading venues and agricultural derivatives. Those in the know argue that the general abolition strengthens the regime by making it more effective, as position limits were preventing some derivative markets from growing, limiting their liquidity.
In March last year, the London Metal Exchange saw the price of nickel skyrocket to more than $100,000 per tonne in a matter of a few hours. With the fear of knock-on effects extending to the broader market, the LME paused trading on a metal contract for the first time since 1988 and cancelled trades executed before the suspension, a decision it faced criticism from investors and traders. This month, it announced it will implement recommendations on accountability and position limits ‘relatively quickly’ to prevent market distortions and improve risk monitoring.
Also in March, ESMA published its Final Report on the European Union Carbon Market (EU carbon market) and, while it did not find any current major deficiencies in the functioning of the EU carbon market, it did state it wanted the European Commission to consider the introduction of position limits on carbon derivatives.
The Hong Kong Securities and Futures Commission (SFC) also had quite the year starting with a consultation from April through June aimed at better aligning the position limit regime in light of recent developments in Hong Kong’s derivatives market. Post-consultation it confirmed its plans to widen its position limits rules and proceed with six changes ranging from expanding the list of specified contracts to revising the Large Open Position reporting requirements. Feedback from the market suggested most supported the majority of proposed changes but some were flagged as adding complexity, being administratively burdensome and potentially generating many false positives.
The FIA also flagged an area of divergence across exchanges where some use directional limits while others use aggregated limits.
We could go on. This is by no means an exhaustive list but it serves as a good indication of how derivatives limit monitoring is still a moveable feast and needs to be kept on top of. It is a complex, messy area of compliance that is often cast aside as the poor relation yet it is clear that the authorities across the globe are far from done in their interpretations and requirements around position limits. Perhaps it is time to put it higher up the priority list.