By Simon Miller

Derivative clearinghouses will have to use their own capital to cover losses to prevent a "default waterfall" if members can't meet their obligations, the European Securities and Markets Authority (Esma) said today.

Launching its consultation for the regulation of over-the-counter derivatives, Esma said that around 50% of central counterparties' capital should be earmarked to cover losses before non-defaulting members would have to step in to prevent a collapse.

In addition, ESMA has widened the type of contracts that can be included under commercial hedging and thus be exempt from clearing including proxy hedging - where the contract is linked to an asset that is closely correlated to the risk being insured. It rejected the inclusion of stock option plans.

The authority will also introduce thresholds under which clearing will not be required.

The threshold for credit and equity derivatives will be €1bn (£0.81bn) and €3bn for derivatives linked to interest rates, foreign exchange and commodities.

Esma chairman Steven Maijoor commented: "These measures will ensure that [the European Market Infrastructure Regulations'] objectives of reducing risks arising from OTC derivatives, improving transparency and ensuring sound and resilient central counterparties will be applied in practice."

Esma will hold a public consultation on the technical standards in Paris on 12 July and the consultation period will close on 5 August with final draft standards expected to be submitted to the European Commission for endorsement by September.

The full document can be found here.

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