Background

The Financial Sector Regulation Act, 2017 (FSR Act) was signed into law on 21 August 2017. It establishes the framework for the "Twin Peaks" model of financial regulation and was introduced by the South African Government as part of its regulatory reform commitment in terms of its obligations as a member state to the Group of Twenty (G20).

In addition to the Twin Peaks model of financial regulation (which is essentially achieved through the creation of two financial sector regulators, namely the Prudential Authority and the Financial Sector Conduct Authority), the FSR Act provides for the regulation and supervision of the over-the-counter (OTC) derivatives market and related market infrastructures, such as clearing houses and trade repositories.

Schedule 4 of the FSR Act provides for a number of amendments to existing legislation in the financial sector, including the Financial Markets Act, 2012 (FMA). These amendments largely provide for the introduction of the new financial sector regulators under the FMA as well as:

• the licencing and regulation of central counterparties;
• the recognition of external central counterparties (as well as the licencing and regulation of external central counterparties); and
• the introduction of a mechanism to recognise a foreign jurisdiction as an equivalent jurisdiction for purposes of the FMA.

Whilst the commencement date of the substantive provisions of the FSR Act is yet to be determined, South Africa’s Minister of Finance determined that section 290 of the FSR Act takes effect in respect of amendments to the FMA as contained in Schedule 4 to the FSR Act to the extent and on the dates indicated in Government Notice No. R.99 published in Government Gazette No. 41433 (the FSR Act Determination). The amendments relating to the regulation of the OTC derivatives market took effect immediately on date of publication (i.e. 9 February 2018).

In addition to the FSR Act Determination, the Minister simultaneously promulgated the Financial Markets Act Regulations under Government Notice No. R.98 which also took effect immediately from date of publication (i.e. 9 February 2018). The FMA Regulations provide for (amongst other things) the requirements for the regulation of OTC derivatives and regulation and functions of central counterparties.

Impact of the FSR Act Determination and FMA Regulations

Who is affected?

Regulation 2 of the FMA Regulations prohibits any person from acting as an OTC derivative provider or advertising or holding itself out as an OTC derivative provider in South Africa unless it has been authorised by the Financial Sector Conduct Authority (the Authority) in terms of section 6(8) of the FMA.

An “OTC derivative provider” is defined as a person who as a regular feature of its business and transacting as principal originates, issues or sells OTC derivatives or makes a market in OTC derivatives (ODP).

An “OTC derivative” is defined as any unlisted derivative instrument that is executed, whether confirmed or not, but excluding foreign exchange spot contract and physically settled commodity derivatives (OTC Derivative).

The prohibition under regulation 2 therefore extends to any person, whether local or foreign, that originates, issues or sells OTC Derivatives or makes a market in OTC derivatives in South Africa as a regular feature of its business. Any such person is required to obtain authorisation to act as an ODP in accordance with regulation 2(2) of the FMA Regulations.

If you are affected, what must you do?

Submit an application for authorisation

Regulation 2(2) of the FMA Regulations provides that an application for authorisation as an ODP must be made in the manner and contain the information prescribed by the Authority. Regulation 43(1) requires that this application must be lodged with the Authority within 6 months from the commencement date of regulation 2 (i.e. by no later than 9 August 2018).

As the FSR Act is not in full force and effect, the Authority is yet to be established in terms of Chapter 4 of the FSR Act.

The current regulator under the FMA, the Registrar of Securities Services (SS Registrar), published a draft notice entitled “Criteria for Authorisation as an over-the-counter derivatives provider” for public comment in 2015 (Draft Authorised ODP Criteria Notice). This is the only notice dealing with the subject-matter to date and as such, the manner and information required for application as an authorised ODP is yet another element of the new financial sector regulation that is yet to be determined.

It is not clear how an affected person will be able to comply with its obligation to submit an application for authorisation to act as an ODP, particularly within the prescribed time frame, in the absence of (1) the Authority being established in accordance with Chapter 4 of the FSR Act (once it is in full force and effect); and (2) that Authority prescribing the manner and information required for an application as required under the FMA Regulations.

There are draft transitional regulations in circulation that suggest that affected persons will be required to obtain authorisation to act as ODPs from the Financial Services Board in order to comply with the provisions of the FMA Regulations.

Reporting obligations of Authorised ODPs

A person authorised as an ODP (Authorised ODP) must report its OTC derivative transactions to a licenced trade repository (TR) or a licenced external TR in the form and manner prescribed by the Authority. Where such Authorised ODP has been accepted for clearing by a licenced central counterparty (CCP) or licenced external CCP, it is the responsibility of the relevant licenced CCP or licenced external CCP to report all OTC derivative transactions that it has accepted to a licenced TR or licenced external TR in the form and manner prescribed by the Authority. Draft trade reporting obligations have been published but these are still to be finalised. It is likely that Authorised ODPs will be required to report the details of their OTC derivative transactions whether confirmed or unconfirmed in the following asset classes to a licenced TR:

• commodity derivatives;
• credit derivatives;
• foreign exchange derivatives;
• equity derivatives; and
• interest rate derivatives.

Clearing obligations of Authorised ODPs

Regulation 4 of the FMA Regulations provides that the Authority may, with the concurrence of the Prudential Authority, determine the eligibility criteria for OTC derivative transactions to be subject to mandatory clearing. An Authorised ODP must ensure that any OTC derivative transaction falling within the scope of the eligibility criteria determined by the Authority, is cleared through a licensed CCP or a licensed external CCP in the manner prescribed by the Authority.

The SS Registrar has not published any draft notices for public comment in respect of the eligibility criteria for mandatory clearing in accordance with regulation 4 of the FMA Regulations.

Next Steps

As the application for authorisation as an ODP is required to be submitted by 9 August 2018, persons conducting the business of an ODP should consider the Draft Authorised ODP Criteria Notice and begin to prepare their authorisation application on the assumption that once established, the manner and information required in connection with an application for authorisation to act as an ODP prescribed by the Authority will be substantially similar to that specified in the Draft Authorised ODP Criteria Notice.