New Energy Trading Requirements Could Trigger Exit of Trading Companies

Energy traders should work more closely with their trading regulatory teams to anticipate regulatory changes and react more successfully.
Published: Fri 23 Oct 2015

While it is necessary that energy trading markets are regulated in order to ensure integrity, transparency and proper functioning, it is also important to strike the right balance between the targets and instruments put in place to achieve these targets. If this is not done properly, a situation could occur where there is great imbalance and where very different results to the ones expected will take place. This is according to Maria Dolores Garcia, Deputy-Director of International Regulatory Affairs, Endesa, Spain, who will be speaking at the upcoming EMART Energy.

She adds that new requirements, stemming from the new regulations, entail more expenses for companies and this may trigger the exit of many trading and industrial companies from the markets with important impacts in liquidity.

There is a broad consensus in the commodities sector that the regulation of financial markets (MiFIDII), regulation of OTC derivatives (EMIR) and the regulation of the capital required to act in the financial markets (CRD) will have an enormous impact on trading activity.

But, traders should also bear in mind that there are other regulations, like market abuse regulation (MAD/MAR), the financial transmission tax (FTT) or benchmark regulation, that eventually will have an impact on the energy trading business, says Ms Garcia.

MIFiDII effects

When it comes to the expected effects of MiFIDII, Ms Garcia says that it may be too soon to provide a concrete answer.

She explains that the Regulatory Technical Standards (RTS), which contain the details to determine when an activity in the financial markets can be considered as ancillary to the main activity of the company, have recently been published by European Securities and Markets Authority (ESMA.)

“We will see if these RTS are finally approved with modifications or not. To clearly isolate the effects of MiFIDII in a context of increasing regulation is difficult. We can talk about the effect of this regulatory ‘hurricane’, which is pivoting around MiFID and EMIR.”

She adds, “What is clear is that if a Non Financial Counterparty is captured by MiFID, automatically it will be considered as a Financial Counterparty under EMIR and it will not be able to benefit from the clearing thresholds or the hedging exemption. Furthermore it will fall under the scope of CRD, and it will be subject to the capital requirements established there. For this reason it is quite worrying that the European Commission endorses ESMA’s proposal as it is right now and does not make any amendment to the text.”

Impacts on risk

If the rules are approved in its current form, Ms Garcia predicts that there will be a decrease in market activity.

“The new requirements are quite burdensome, compliance costs are very high and some markets participants will be forced to exit whilst others will reduce their activity. In other words, we will see a decrease in liquidity that automatically will induce a wide bid-offer spread.”

This situation of wider spreads implies higher costs to hedge the risks derived from the “natural” positions of asset-based companies. So, to hedge the risks will be more expensive, and depending on each situation, some companies may decide not to cover all of them and will manage their risks less efficiently.

Energy traders face a number of challenges and the future may see some traders decrease their activity in European commodities markets, and others may be forced to leave the market altogether.

Ms Garcia says that the sector has seen dramatic change and suggests that traders work closely with their trading regulatory teams so that they get regular updates, and understand the news and impacts of their decisions on the performance of the company. This way, traders can anticipate the new changes and reduce the impact on the company more efficiently and successfully.

In conclusion, Ms Garcia says that she is looking forward to EMART Energy and would like to bring the discussion to the real economy and make European institutions understand the difficulties that non –financial firms are going to face due to these new regulations, and that in this way, it will be more difficult to reach the European global goals.