Rep. Lance Gooden Introduces H.R. 4233 'Options Market Stability Act of 2019’ to Increase the Risk-Sensitivity on Investments

Rep. Lance Gooden Introduces H.R. 4233 ‘Options Market Stability Act of 2019’ to Increase the Risk-Sensitivity on Investments

WASHINGTON DC — September 6, 2019, Representative Lance Gooden (TX-R) introduced Bill H.R. 4233, ‘‘Options Market Stability Act of 2019,’’ to the House of Representatives. Bill H.R. 4233 was referred to the House Committee on Financial Services.

Bill H.R. 4233, which provides sections of established Acts and Regulations, will be used as its basic parameters for financial organizations to conform in assessing the financial risk.

Also, the Bill requires the use of “derivatives,” which are exchange-listed, to increase risk-sensitivity.

The type of Risk-Sensitivity that was not used during the housing bubble burst (the mid-1990s and early 2000s) set the economical bank bail-outs to occur.  With introducing this Bill, lending institutions are now required to adhere to Acts and regulations highlighted in the Bill.

H. R. 4233

116th CONGRESS
1st Session

To require the Federal banking agencies to increase the risk-sensitivity of
the capital treatment of certain centrally cleared exchange-listed
derivatives, and for other purposes.

IN THE HOUSE OF REPRESENTATIVES
SEPTEMBER 6, 2019
Mr. GOODEN introduced the following bill; which was referred to the
Committee on Financial Services

A BILL

To require the Federal banking agencies to increase the risk-sensitivity of the capital treatment of certain centrally cleared exchange-listed derivatives, and for other purposes.

Be it enacted by the Senate and House of Representatives of the United States of America in Congress assembled,

SECTION 1. SHORT TITLE.

This Act may be cited as the ‘‘Options Market Stability Act of 2019’’.

SEC. 2. DERIVATIVE CONTRACTS.

  • DEFINITIONS.—In this section, the terms ‘‘depository institution’’ and ‘‘depository institution holding company have the meanings given those terms in section 3 of the Federal Deposit Insurance Act (12 U.S.C. 1813).
  • REQUIREMENT.—Not later than December 31, 2019, the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, and the Comptroller of the Currency shall—
    1. Jointly issue a final rule relating to the notice of proposed rulemaking entitled ‘‘Standardized Approach for Calculating the Exposure Amount of Derivative Contracts’’ (83 Fed. Reg. 64660; December 17, 2018); or
    2. Implement relief that allows for the adoption of a methodology for calculating the counterparty credit risk exposure, at default, of a depository institution, depository institution holding company, or affiliate thereof to a client arising from a guarantee provided by the depository institution, depository institution holding company, or affiliate thereof to a central counterparty in respect of the client’s performance under an exchange-listed derivative contract cleared through that central counterparty pursuant to the risk-based and leverage-based capital rules applicable to depository institutions and depository institution holding companies under parts 3, 217, and 324 of title 12, Code of Federal Regulations, that reflects the economic value of delta weighting and netting.

 

 

The document above has been reformatted for clarity and embedded references. (Original Bill)

 


We would probably agree we do not want another economic melt-down. Many have already experienced what happens during a crisis of this sort.

Most of us were caught flat-footed. We didn’t understand how this could happen in the greatest nation in the world but were unable to know which regulations to look into. I didn’t, so while waiting on updates from the Finance Committee, I thought I would look at what the bankers’ lingo meant;

derivative [ dih-riv-uh-tiv ]

adjective
derived.
not original; secondary.

noun
something that has been derived.
Also called derived form.
Grammar. a form that has undergone derivation from another, as atomic from atom.

Chemistry.
a substance or compound obtained from or regarded as derived from, another substance or compound.
Also called differential quotient; especially British, differential coefficient. Mathematics. the limit of the ratio of the increment of a function to the increment of a variable in it, as the latter tends to 0; the instantaneous change of one quantity with respect to another, as velocity, which is the instantaneous change of distance with respect to time.

(from Investopedia)

What Is an Exchange Traded Derivative?

An exchange traded derivative is a financial instrument that trades on a regulated exchange and whose value is based on the value of another asset. Simply put, these are derivatives that are traded in a regulated fashion. Exchange traded derivatives have become increasingly popular because of the advantages they have over over-the-counter (OTC) derivatives, such as standardization, liquidity, and elimination of default risk. Futures and options are two of the most popular exchange traded derivatives. These derivatives can be used to hedge exposure or speculate on a wide range of financial assets like commodities, equities, currencies, and even interest rates.

Exchange Traded Derivative Explained

Exchange traded derivatives are well suited for the retail investor, unlike their over-the-counter cousins. In the OTC market, it is easy to get lost in the complexity of the instrument and the exact nature of what is being traded. In that regard, exchange traded derivatives have two big advantages:

  • Standardization: The exchange has standardized terms and specifications for each derivative contract, making it easy for the investor to determine how many contracts can be bought or sold. Each individual contract is also of a size that is not daunting for the small investor.
  • Elimination of default risk: The derivatives exchange itself acts as the counterparty for each transaction involving an exchange traded derivative, effectively becoming the seller for every buyer, and the buyer for every seller. This eliminates the risk that the counterparty to the derivative transaction may default on its obligations

Another defining characteristic of exchange traded derivatives is their mark-to-market feature, wherein gains and losses on every derivative contract are calculated on a daily basis. If the client has incurred losses that have eroded the margin put up, he or she will have to replenish the required capital in a timely manner or risk the derivative position being sold off by the firm.

Exchange Traded Derivatives and Institutional Investors

Exchange traded derivatives are not favored by large institutions because of the very features that make them appealing to small investors. For instance, standardized contracts may not be useful to institutions that generally trade large amounts of derivatives because of the smaller notional value of exchange traded derivatives and their lack of customization. Exchange traded derivatives are also totally transparent, which may be a hindrance to large institutions who generally do not want their trading intentions known to the public or their competitors. Institutional investors tend to work directly with issuers and investment banks to create tailored investments that give them the exact risk and reward profile they are looking for.

 

(More information to come as Bill H.R. 4233 moves forward.)

 

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