Lecture delivered at the Lagos Business School on derivatives and its regulation in Nigeria

1. REGULATING THE NIGERIAN DERIVATIVES MARKET
LAGOS BUSINESS SCHOOL

2. Financial Instruments in the form of a bilateral contract which value is
derived from/determined by the future index of an underlying asset
and which is capable of being traded.
❑ Bilateral Contract: requiring the parties to perform an
obligation or exercise a right in the future.
❑ Future Value: value derived from the contract is
dependent on the worth of the underlying asset on the
date of performance.
❑ Underlying Assets: such as Shares, Bonds, Agricultural
Produce, Oil, Gas, Extractive Minerals, Currency, Interest
Rates etc.
❑ Markets: A recognized exchange or an OTC platform.
DERIVATIVES IN A NUTSHELL

3. FUTURES
OPTIONS
SWAPS
SWAPTIONS FORWARDS
SWAPS
OPTIONS
FUTURES
FORWARDSSWAPTIONS

4. ❑ Market Efficiency - price discovery, risk management
❑ Inlet for foreign capital (increased liquidity in primary
markets, global market for local resources)
❑ Standardized/developed real sector/primary market
(money market, agriculture, exploration and
production, mining, real estate, real estate etc.)
❑ Hedging protection for corporates; money and capital
mkt participants (WAPCO loss 5b 2008 )
❑ Response to information and price shift (supports
monetary policy)
WHY WE NEED A DERIVATIVES MARKET

5. THE GLOBAL DERIVATIVES MARKET OVERVIEW
DEALERS Financial Parties: Banks , Insurance
Companies, Hedge Funds, Asset
Managers
Non Financial Parties: Corporate
Treasurers, HNIs, Privates
(Hedgers, Speculators, Arbitrageur)
OTHER
PARTICIPANTS
Counterparty Clearing Houses,
Commodities Warehouses, Settlement
House (Bank for International
Settlement)
MARKETS OTC Traded
Exchange Traded
CONTRACTS ETD Contracts (Swiss Master
Agreement)
ISDA Master Agreement 2002
(Single/multicurrency),

6. THE GLOBAL DERIVATIVES MARKET OVERVIEW
LAWS &
REGULATIONS
Insolvency Laws/Netting/Set Off Laws
Tax Laws/Payment Systems Laws and
Regulations/Market Rules
REGULATORS ▪ Securities Commission
▪ Specialized Commodities and Futures
Commission
▪ The Reserve Bank
NOTIONAL SIZE USD 1.2 Quadrillion 10 times total world
GDP
RISKS Credit Risk, Legal Risk,
Market Risk, Liquidity Risk, Custody &
Investment Risk, Counterparty Risk
SYSTEMIC RISK

7. LAW & FINANCIAL MARKETS

8. DERIVATIVES: GLOBAL MARKET REGULATIONS
G20: IMPROVE TRANSPARENCY,
MITIGATE SYSTEMIC RISK, AND PROTECT
AGAINST MARKET ABUSE AND
REGULATORY ARBITRAGE
EUROPEAN MARKETS INFRASTRUCTURE
REPORTING (EMIR)
DODD FRANK CONSUMER PROTECTION ACT/FATCA
INTERNATIONAL ORGANIZATION OF SECURITIES
COMMISSION (IOSCO)
FINANCIAL STABILITY BOARD

9. 1. CLEARING
▪ Clearing derivatives through a central counter party
▪ Capital Requirement for non centrally cleared contract
(exemptions)
2. TRADE REPORTING
▪ Reporting all derivatives transactions to regulators or trade
repositories (entry into, modification, default and
termination)
▪ Registration of contracts
3. RISK MITIGATION
Margin and Collateral Requirement Margin Segregation,
Business Continuity Plan, Market Abuse
KEY ELEMENTS MARKET REGULATIONS

10. 4. BUSINESS CONDUCT REQUIREMENT
▪ Registration requirement for dealers and derivatives market
intermediaries (DMIs)
▪ KYC, risk disclosures, daily valuation
▪ Risk mitigation procedure
▪ Capital Standards /Prudential Requirement
▪ Business conduct standards
5. MARKET INFRASTRUCTURE
▪ Trading platforms (exchange/OTC); clearing and settlement
systems; payment systems; Trade Repositories
FUNDAMENTALS: SEGREGATION; PORTABILITY , TIERED
PARTICIPATION, GENERAL RISK MITIGATION
DERIVATIVES: OBJECTIVES OF MARKET REGULATIONS

11. ❑ No organized derivatives exchange
- NSE + NSX (Spot Market for Securities and
Commodities)
❑ 2 OTC Markets for Securities, Money Market
Instruments
- NASD + FMDQ
❑ Nascent Regulatory Framework
- Regulatory body for Derivatives ( CBN, SEC, SRO-
NSE,NSX, NASD, FMDQ)
- Netting Law, Bankruptcy Law
❑ Underdeveloped Underlying Markets
❑ No Central Counterparty Clearing House
❑ Settlement Infrastructure (margining & Settlement of
Derivatives Contracts (NIBSS)
NIGERIAN MARKET ASSESSMENT OVERVIEW

12. ❑Market Infrastructure: Central Securities
Depository (CSCS); Trading Platform (FMDQ FX
Products) Clearing and Settlement (No Central
Clearing); Payment Systems ( CBN/NIBSS)
❑CBN Guideline for FX Derivatives (2011)
❑Tax Treatment for Derivatives
NIGERIAN MARKET ASSESSMENT OVERVIEW

13. ❑ ISA provides for the establishment of futures exchanges
and registration of futures contracts:
- No framework for the operation of the
exchanges or trading of derivatives
- No laws on internal control, operational risk
management, collateral arrangement, liquidity
/prudential guides, technology or trading
infrastructure
❑ CBN Act gives it powers to regulate settlement systems:
- did not envisaged settlement by central
counterparties or other non CBN regulated
entities (NIBSS)
NIGERIAN REGULATORY FRAMEWORK OVERVIEW

14. ❑ CAMA (Right of Secured Creditors, priority in the
event of insolvency) protection for collateral &
margin; right of lien
❑ Bankruptcy Act (Sec 33 Right to set – off mutual
obligations)
❑ NDIC Act (S41 depositors rank ahead of any secured or
unsecured creditors of commercial banks)
❑ Market Rules FMDQ (money mkt/fixed income), NASD
(Equities)
❑ CBN Guidelines for Banks trading OTC Derivatives
❑ CBN FX Policy, June 2016
NIGERIAN REGULATORY FRAMEWORK OVERVIEW

15. OVERVIEW OF EXISTING SEC LEGAL FRAMEWORK
SUBJECT MATTER ENABLING LAW/REGULATION
Establishment of CCPs
(Securities Clearing and Settlement
Company)
ISA S.315 SECCRA 277(1)
Operational Guidelines for a CCP SECRRA 177
Trading Rules for Commodities
Exchanges
SECRRA 177(8)
Systemic Risk Mitigation SECCRA 391 – Collateral Management
(approval of internal control rule
SEC/accounting for client securities)
Technology/Trading Infrastructure SECRRA 176 (f) – (h); 177(5)
Systems and Business Continuity
requirement
Payment Systems S47(2) CBN Act

16. SCALING UP EXISTING LEGAL FRAMEWORK
CLEARING ▪ Facilitation of CCP
Registration/business
conduct rules
▪ Mandatory clearing via CCPs
▪ Processing for clearing ET
derivatives
▪ MP registration (Dealers,
Market Intermediaries.)
▪ Participation Requirement
TRADE REPORTING ▪ Mandatory reporting: SEC
or Trade Repository
▪ Retrospective
▪ Contract Registration

17. SCALING UP EXISTING LEGAL FRAMEWORK
RISK MANAGEMENT ▪ Margin/collateral
requirement
▪ Default Management
Procedures
▪ Facilitating Netting Laws for
insolvency protection
▪ SRO Reporting
▪ Treasury and Investment
Guide for Margins
▪ Payment/Settlement Cycle
▪ Risk Management
Framework for Trading
Platform, CCP, Settlement
System

18. SCALING UP EXISTING LEGAL FRAMEWORK
BUSINESS PROCESSES ▪ Operational Requirements for all
Participation Requirement/KYC
▪ Risk Disclosures
▪ Capital requirement/Prudential
Guide
▪ End User protection (Scenario
Analysis/Suitability of Product )
▪ Daily Valuation (marking to
Market)
▪ Payment and Settlement
(settlement Banks, timeline)
▪ Rule Books/Participation
Agreement
TECHNOLOGY/MARKET
INFRASTRUCTURE
Trading Infrastructure ; Clearing and
Settlement Infrastructure, payment
systems, business continuity/disaster
recovery

19. ❑ Independence: SEC is financially independent;
Oversight of FMOF and the legislature
❑ Cooperation : Member of FSRCC ; Has signed IOSCO
Multilateral MOU
❑ Technical Expertise Sub – Optimal
❑ Weak prudential guidelines/organizational
requirement
❑ Weak Systemic Risk Framework
❑ Weak Oversight over SRO Members Supervision
❑ Comprehensive and sufficient enforcement powers
❑ Weak Trade Reporting from Market Intermediaries
❑ % of core regulatory/supervisory function 30%
2016: WHERE ARE WE NOW?
SUMMARY OF IOSCO 2013 ASSESSMENT SCORECARD

20. REGULATING DERIVATIVES
“Money never seems to be interested in
strengthening regulatory agencies, for example,
but always in subverting them, in making them
miss the danger signs in derivatives trading”
Thomas Frank

21. These are presentation slides only. The
information contained here do not
constitute definitive legal advice. You may therefore not rely on
same without checking
the primary sources.
www.tosin@tosinajose.com
©2016