Russian Federation: Recent Developments In Russian Clearing And Netting Legislation

Federal law 7-FZ "On clearing and clearing activity" dated 7 February 2011 and Federal law 8-FZ "On implementation of amendments to certain Russian laws in compliance with the Federal law "On clearing and clearing activity" dated 7 February 2011 ("the new clearing legislation") have been adopted by the State Duma, approved by the Federal Council, signed by the President and officially published. They will enter into force on 1 January 2012.

The new clearing legislation stipulates the legal basis for clearing activities (non-cash transactions based on the mutual settlement of debts, including netting of obligations), including risk management procedures, requirements for legal entities performing clearing activities and the functions of the central counterparty (the clearing entities), as well as the legal framework for state regulation and supervision of clearing activities.

The main purpose of the new laws is to introduce an efficient clearing system for exchange and OTC (off-exchange) markets, which was envisaged in the "Strategy for the Development of Russian Federation's Financial Markets until 2020" adopted by the Russian Government in 2008, in order to enhance competitiveness of the Russian financial market.

Some key requirements for clearing entities are as follows:

  • Clearing activity is subject to licensing and supervision by the Federal Service for Financial Markets (the FSFM). Clearing entities may not engage in certain specified activities, including production, trading, insurance, or maintenance of securities registers. If a clearing entity combines clearing activity with other permitted services it must conduct a conflict of interest check to avoid potential violation of the rights of clearing participants.
  • The new law sets out the constraints placed on employees, governing bodies, the founders of clearing entities and clearing participants in order to minimise systemic risk. In particular, clearing entities are required to establish and to maintain adequate internal accounting and control procedures.
  • Clearing entities have a minimum capital requirement of 100 million rubles.
  • Clearing may take place either with the involvement of a central counterparty ("the CCP") or without. In the latter case the contract remains in force between the original counterparties. Otherwise, the original contract is replaced by two contracts with the CCP.
  • Clearing entities are obliged to set up a risk management system which has to be stress-tested on a regular basis. The information on the results of stress-tests is to be sent to the Central Bank of Russia and to the FSFM.

One of the most significant changes introduced by the new laws is the provision of a close-out netting procedure. This is a process by which, following an event of default (generally insolvency) on the part of a participant in the system, open transactions between the parties are terminated, then each terminating transaction is valued, and all the termination values, together with any unpaid amounts, are reduced to a single net amount owed by one party to the others.

In Russia, the concept of close-out netting was introduced primarily through amendments by the new clearing legislation to the Federal Law 39-FZ "On Securities Market" dated 22 April 1996 and the Federal law 127-FZ "On Insolvency (Bankruptcy)" dated 26 October 2002.

According to the amended Federal Law "On securities market", parties entering into several repo transactions, derivatives or other transactions with securities or foreign currency may do so on the basis of a master agreement, which may incorporate certain model terms by reference. Any such model terms must include rules for termination of all transactions in case of bankruptcy of a party to the master agreement and calculation of the net balance.

According to the amended Federal Law "On Insolvency (Bankruptcy)" liabilities of parties in compliance with transactions governed by a master agreement can be terminated by virtue of the procedure stipulated by this master agreement, giving rise to a net monetary obligation payable by one party to the other. In order to be included in the netting calculation, Only transactions contracted prior to the commencement of administration, the decision of the arbitration court to initiate any bankruptcy procedure or if applicable, revocation of a banking licence (whichever occurs first) may be taken into account in the netting calculation.

The new clearing legislation, and particularly the provisions concerning close-out netting, have been welcomed as a very positive development for the Russian financial system. However, the new legislation merely sets out the legal framework and is subject to further interpretation by the courts and the supervisory authorities once it becomes effective.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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