Page 140 - IFR Opportunities in Russian capital markets

CHAPTERDERIVATIVES 12 Background
Derivative trading was first introduced on the St Petersburg exchange in 1992 but never took off. After the 1998 financial crisis investors lost interest in derivatives as the legal basis underpinning them was destroyed by the legal battles brought by international banks trying to get Russian banks to honour forward currency exchange contracts widely used prior to the crisis.
However, after these legal problems were resolved in 2006, the derivatives market exploded, reflecting growing investor interest, high market volatility and the steadily expanding number of issues traded.
The two main exchanges – MICEX and the RTS – have both set up derivatives platforms which are expanding as interest rises, although the RTS is the dominant derivates exchange.
At the same time, there is also a brisk OTC trade in equity derivatives, as all leading international and Russian investment banks have built substantial derivatives desks, and these trading volumes continue to increase as well.
"Activity in the derivatives market is growing very substantially, and we expect to see this segment grow even faster in 2007. Currently most activity is in options giving exposure to the RTS Index as traders look for ways to increase market leverage while others look to hedge market uncertainty. That activity will grow in 2007 as nervousness over political change and the sustain- ability of future growth inevitably increase", says Alfa Bank.
Legal developments
Until 2006, the same laws that govern Russian casinos covered derivative products. Unable to write meaningful contracts the derivative business was small, but following the changes to the laws the market has blossomed.
The problems started with the devaluation of the ruble in August 1998. As the ruble at the time was not a freely-traded currency, but was kept within a well-defined trading band by the CBR, most Russian banks saw these contracts as money for old rope and built several tens of billions of dollars of exposure. When the ruble actually lost about three-quarters of its value in a day, the Russian banks wormed they way out of these obligations by arguing that derivative products were a form of betting and they were not liable for the punters’ losses, an argument accepted by the courts which set a precedent.
That changed in July 2006, when the Duma accepted the first laws to put derivative trading on a proper legal footing in the first of three readings. This is an ongoing process and the legal basis for derivate trading is far from finished, but traders are confident that it the process is in its final stages.
Futures for deliverables – such as grain and oil – already enjoyed some protection, as Russian law saw these deals as sales contracts that are covered by the civil code. But more sophisticated products for non-deliverables – such as an option to buy a stock at a set price in a month’s time – were in a legal limbo that effectively treated them the same way as betting on the fall of a ball on a roulette wheel.
However, the passage of the long-mooted derivates law ran into problems in December 2006 when the upper house of parliament, the Federation Council, shot the law down. The upper house objected to changes to Article 1062 of the second part of the civil code, which deals with gambling; quite sensibly, the law says that gamblers are not entitled to legal protection if they lose.
The new bill proposes new clauses to the bill to cut derivatives out from the rest, giving judicial support for any ‘bet’ that meets the following critieria:
0 Such claims arise out of transactions that oblige a party or the parties to pay monetary funds;
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