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US bank losses on OTC derivatives products less than $2.7bn since 2007: ISDA report

The International Swaps and Derivatives Association (ISDA) in its recently published reports says that the US bank losses on OTC derivatives products due to counterparty defaults totaled less than $2.7bn since 2007.

It also notes that risk management processes such as netting and collateralization significantly reduce US banks’ net current credit exposure (NCCE). In fact, netting and collateralization decrease the NCCE of the US banking system to $107bn, or 4 basis points (0.04%) of notionals outstanding.

According to the report, less than one-third of this amount — or approximately $30bn — is with entities covered by The Dodd-Frank Act’s requirements on margining and clearing.

As part of its research, ISDA also analyzed SEC reports of non-bank financial entities. This analysis indicates counterparty credit losses by non-bank financial entities relating to sub-prime mortgages and monolines dwarf the losses on plain vanilla OTC derivatives.

The report says that the banks themselves were not excessively involved with toxic mortgage products in derivative form. ISDA believes that the vast majority of OTC derivatives among the banks consists of simple, plain vanilla products.

In addition, ISDA noted that credit losses were positively affected by actions of the Fed with respect to AIG, which prevented increased losses across several business lines, including mortgage derivatives products, and, potentially, cascading defaults from other counterparties not involved with mortgage derivatives.

ISDA drew upon data from the Office of the Controller of the Currency (OCC) Quarterly Report on Bank Trading and Derivatives Activities First Quarter 2011 for information regarding US banks.