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March 2016 ▪ Volume 36 ▪ Issue 3 REPORT
DERIVATIVES dence from the Soviet Union in 1991 has started a new chapter in the development REGULATION IN of Azerbaijani securities markets. AZERBAIJAN Soon after gaining independence, Azer- Ulvia Zeynalova-Bockin baijan adopted the Law “On Securities Ulvia Zeynalova-Bockin is a senior as- and Stock Exchanges”3 (now repealed), sociate in the Baku o ce of Dentons. which regulated the securities market with Her practice includes banking law, Islamic nance, real estate nance, the objective of protecting the interests of mergers and acquisitions, as well as investors. At the same time the govern- corporate law and nance. She also has ment launched the First State Privatiza- experience in securities and nancial tion Program4, creating a hundreds of joint regulation, including work with the Corporation Finance Division of the stock companies and thousands of share- U.S. Securities & Exchange holders on the basis of privatized state Commission. She has provided legal enterprises. The State Committee on Se- support to local and international curities of the Republic of Azerbaijan (the clientele in high-pro le matters, includ- 5 ing advising on the rst IPO to be listed “State Securities Committee”) was estab- on the Baku Stock Exchange and advis- lished in 1998, followed soon thereafter ing major investment banks on by the establishment of the modern Civil Azerbaijani derivatives and securities Code of the Republic of Azerbaijan.6 Not regulation. surprisingly, this period also coincided I. Introduction with signing of the rst production shar- The formation of securities markets in ing agreement in 1994, allowing foreign The Journal on the Law of Investment & Risk Management Products Azerbaijan reportedly dates back to the investment in the hydrocarbon sector of late 19th century, with the establishment the place where the international oil indus- of the Baku Commodities Exchange, on try was born in the mid-19th Century. The which bonds and promissory notes were Baku Stock Exchange was established in traded.1 Further development of the secu- 2000.7 rities markets was followed by creation of However, until very recently, Azerbai- the Baku Trade Bank and several joint jani derivatives regulation remained rather stock companies operating mainly in the fragmented and undeveloped, consisting petroleum industry in independent largely of a few general provisions in the Azerbaijan.2 Civil Code,8 the cornerstone of Azerbai- While prospects of mature securities jani civil and commercial law, together markets were stalled by the annexation of with several pieces of secondary legisla- Futures & Derivatives Law Azerbaijan by the Soviet Union in 1920, tion enacted by the State Securities the restoration of the country’s indepen- Committee. Indeed, there did not seem to March 2016 | Volume 36 | Issue 3 Futures and Derivatives Law Report
be any need to regulate the almost non-existent to the holder to buy, sell or swap an underlying local derivatives market, as the country was asset. Finally, swaps are derivative nancial enjoying a steady stream of revenues from hydro- instruments under which two parties exchange carbon exports for nearly a decade, and local the same type of underlying asset.12 investors were free to invest in derivatives prod- The concept of derivative nancial instrument ucts abroad. was strategically included under Chapter 20 of With the recent sharp decline in the price of the Civil Code (Contact Law). Previously, deriva- oil, Azerbaijan has recently stepped up its e orts tives were considered to be securities. Including to develop its nancial sector further. Part of that derivatives regulation in the section of the Civil e ort was to modernize the legislation, which has Code pertaining to contracts might possibly lead the Azerbaijani Parliament, the Milli Majlis, signal a legislative intent to exempt non- to adopt a new Securities Market Law in 2015,9 standardized derivative nancial instruments as well as introducing amendments to the key from the existing securities regulations, while sections of the Civil Code dealing with regulating those that are traded over the stock ex- derivatives. In this article we discuss these recent changes in Azerbaijan. legislative developments in derivatives regula- Finally, these amendments to the Civil Code tion in Azerbaijan. expressly excluded derivative nancial instru- II. Recent Developments in Derivatives ments from the scope of the Azerbaijani gaming Regulations laws, clarifying once and for all that derivative nancial instruments have legitimate a economic A. Amendments to the Civil Code and commercial purpose. The most crucial part of the amendments to the B. New Securities Market Law Civil Code was introduction of a new concept of the derivative nancial instrument, de ned as a The Securities Market Law, which was ad- contract to buy, sell or swap underlying assets, opted on the same day as the amendments to the securities, foreign exchange, interest spots, prof- Civil Code discussed above, completely over- itability, derivative nancial instruments, com- hauled the regulation of the securities and deriva- modities, nancial indices, credit risk, and the tives market in Azerbaijan. like may serve as underlying assets.10 Despite the fact that derivatives are no longer The law provides for three types of derivative designated as securities, the de nition of the nancial instruments - futures, options, and regulated market set forth in the Securities Mar- swaps.11 ket Law includes both securities and derivative nancial instruments that are being traded on a Futures are derivative nancial instruments for stock exchange. (In fact, the State Securities the sale and purchase of a predetermined type and Committee13 has recently adopted the relevant amount of an underlying asset at an agreed date rules, which are discussed later in this article). and price. Options are de ned as derivative nancial instruments that grant a unilateral right The Securities Market Law introduced new
2 K 2016 Thomson Reuters Futures and Derivatives Law Report March 2016 | Volume 36 | Issue 3 licensing requirements in relation to certain sis related to securities and derivative nan- activities related to derivative nancial cial instruments; instruments. Namely, engaging in any of the fol- E acting as a security trustee for secured lowing primary and auxilliary investment ser- bonds; and vices in Azerbaijan now requires an investment company license. E foreign exchange activities in relation to conducting primary investment services.15 1. Primary investment services It should be noted that, prior to the adoption of Primary investment services are de ned to the Securities Market Law, separate licenses include: were required for brokers, dealers and underwrit- E the acceptance and execution of clients’ ers, which were issued for a period of ve years, orders in relation to transactions with de- while licenses for investment companies are now 16 rivative nancial instruments; issued for an inde nite period of time. Primary and auxiliary investment services are subject to E the management of individual investment further reporting, implementation, bookkeeping, portfolios, including those consisting auditing, and other requirements under the Secu- wholly or partially of derivative nancial rities Market Law.17 instruments; The Central Bank of the Azerbaijan is ex- E the management of clients’ accounts, in- pressly authorized to enter into transactions relat- cluding executing transactions related to ing to securities or derivative nancial instru- encumbering derivative nancial instru- ments on its own behalf without obtaining a ments; license for investment company activities, pro- vided that such transactions are entered into for E lending funds or securities to investors for the bene t of the State.18 trading with derivative nancial instru- ments; and C. Other Relevant Legislation; Use of ISDA Documents E conducting investment and nancial analy- sis related to derivative nancial 1. Advertising Law instruments.14 The new Advertising Law19 contains certain restrictions related to the advertising of securi- 2. Auxiliary investment services ties, as well as nancial, bank, and investment Auxiliary investment services include: services, in Azerbaijan. The act of advertising is de ned as information distributed using various E lending funds or securities to investors for means and methods in any form for the purpose trading with securities and derivative nan- of attracting the attention of the consumer to the cial instruments; subject-matter of the advertisement, creating and E conducting investment and nancial analy- maintaining interest in and increasing awareness
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about the product and stimulating the sale Law, the enforceability of netting provisions of thereof.20 ISDA Master Agreements was based primarily on the fact that Azerbaijani law provided for the These restrictions include, along with a previ- concept of set-o , by which an obligation is ously enacted prohibition against the advertising deemed satis ed in full or in part by a set-o of unregistered securities, restrictions related to against a counter claim, where such counter the advertising of securities before a decision on claim has already matured, or where there is no the sale of such securities is adopted, providing indicated term of maturity, or where the instru- information that contradicts information con- ment will mature on demand (with a few tained in a prospectus, promising or guaranteeing exceptions).23 The Securities Market Law has future performance based on the historical track also introduced the concept of netting, i.e., the record on past performance, as well as withhold- netting of claims and obligations arising from ing information about existing or anticipated transfer orders sent or received by clearing mem- risks or the terms of a contract that might a ect bers to (or from) other clearing members in such nancial outcomes for consumers.21 a way that, after such netting, only a single claim 2. Secondary Regulations or liability is created.24
In the months following the adoption of the III. The Future of Derivatives Regulation in Securities Market Law, the State Securities Com- Azerbaijan mittee has introduced a number of regulations, In spite of the enactment in Azerbaijan of the including rules for the placement and trading of rst speci c provisions relating to derivative derivative nancial instruments listed on a stock nancial instruments, which provide a degree of exchange. While these rules lack detail, they set additional clarity on the subject, the legislation forth the minimum content, placement and trad- remains very general and incomplete. As deriva- ing requirements for derivative nancial tive transactions become more widespread instruments. Further details are set forth in the among the various players in Azerbijan, it is internal rules of the stock exchange. (The Baku likely that more detailed regulations will be Stock Exchange is currently the only licensed enacted, addressing the uncertainty that still stock exchange in the country).22 causes hesitation by foreign nancial institutions. 3. ISDA Master Agreements E orts are currently under way to establish a During the past several yearsthere has been a single regulator of nancial markets, the Finan- gradual but noticeable increase in the use of cial Markets Supervision Chamber which, upon ISDA Master Agreements by local counterpar- approval of its Charter, will replace the State Se- ties, and particularly the Central Bank of the curities Committee, the State Insurance Supervi- Azerbaijan (CBA), the State Oil Fund of Azerbai- sion Service under the auspices of the Ministry jan (SOFAZ), and local banks and corporates, of Finance, and the Financial Monitoring Service both privately held and state-controlled. under the auspices of the Central Bank.25
Prior to enactment of the Securities Market While the Charter and authorities of the Cham-
4 K 2016 Thomson Reuters Futures and Derivatives Law Report March 2016 | Volume 36 | Issue 3 ber are yet to be determined, this body was stated ill¡rd¡ dövl¡t mülkiyy¡tinin öz¡ll¡s¸dirilm¡sinin to be created for the purposes of licensing, regu- Dövl¡t Proqramının” t¡sdiq edilm¡si haqqında [Decree of the President of the Republic of lation, and oversight over the securities market, Azerbaijan. On Approving the State Program for the activities of investment funds, insurance the privatization of state property in the Republic companies, credit institutions (banks, non-bank of Azerbaijan in 1995-1998] No 1120, dated credit institutions and the postal operator), and September 29, 1995, is available at http://e-qanu n.gov.az/framework/9472#. payment systems, as well as improving controls 5 in the eld of prevention of the legalization of “Az¡rbaycan Respublikasının Prezidenti 26 yanında qiym¡tli Kağızlar üzr¡ Dövl¡t proceeds from crime and terrorist nancing. Komit¡sinin yaradılması haqqında” Az¡rbaycan Respublikası Prezidentinin F¡rmanı [Decree of The Financial Markets Supervision Chamber the President of Azer. on Providing for the Activ- was created in the form of a public legal entity,a ity of the State Committee for Securities under quasi-state entity, for the purposes of engaging in the auspices of the President of the Republic of activities of national signi cance.27 The Azerbai- Azerbaijan] No 58, dated December 30, 1998, Az¡rbaycan Respublikasının Qanunvericilik jani nancial community is awaiting with inter- Toplusu [Azer. QT] [Republic of Azerbaijan Col- est the forthcoming establishment of the Chamber lection of Legislation] 1998, No. 12, Item 772. and the adoption of further regulations, both of 6 Az¡rbaycan Respublikasının Mülki which should eliminate the uncertainty and foster M¡c¡ll¡si [Azer. MM] [Azer. Civil Code], is the use of derivative nancial instruments in the available at http://e-qanun.gov.az/code/8#. country. 7“[Bakı Fond Birjasının] Tarixc¡[si]” [Brief History of the Baku Stock Exchange] (http:// bfb.az/tarixce/). Retrieved March 25, 2016. ENDNOTES: 8Civil Code (Azer.), art.1078-3. 1“Az¡rbaycan Respublikasında qiym¡tli 9“Qiym¡tli kağızlar bazarı haqqında” kağızlar bazarının yaranma tarixi” [History of Az¡rbaycan Respublikasının Qanunu [Azer. Se- the securities market in the Republic of Azerbai- curities Market Law], No. 1284-IVQ, dated May jan] (http://scs.gov.az/qiymetli-kagizlar-bazari/q 15, 2015, Az¡rbaycan Respublikasının Qanun- kb haqqinda). Retrieved January 2, 2016. vericilik Toplusu [Azer. QT] [Republic of Azer- 2Mir Yusif Mir-Babayev, Azerbaijan’s Oil baijan Collection of Legislation] 2015, No. 07, History: A Chronology Leading up to the Soviet Item 813 (Azer.). Era, Azerbaijan International, Summer 2002 10Civil Code (Azer.), art.403-1.1. (10.2), Pages 34-40 (http://www.azer.com/aiwe 11 b/categories/magazine/ai102 folder/102 articl Id., art.403-1.3. es/102 oil chronology.html). Retrieved Janu- 12Id., art.403-1.4-403-1.6. ary 2, 2016. 13The State Securities Committee has re- 3“Qiym¡tli kağızlar v¡ fond birjaları cently, among other governmental authorities, haqqında” Az¡rbaycan Respublikasının Qanunu been reorganized into the Financial Markets [Azer. Law on Securities and Stock Exchanges], Supervision Chamber, which was established fur- No. 383, dated November 24, 1992, Az¡rbaycan ther to “Az¡rbaycan Respublikasının Maliyy¡ Respublikasının Qanunvericilik Toplusu [Azer. Bazarlarına N¡zar¡t Palatası publik hüquqi QT] [Republic of Azerbaijan Collection of Legis- s¸¡xsin yaradılması haqqında” Az¡rbaycan lation] 1992, No. 22, Item 952. (Azer.) Respublikası Prezidentinin F¡rmanı [Decree of 4“Az¡rbaycan Respublikasında 1995-1998-ci the President of Azer. on Establishing the Finan-
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cial Markets Supervision Chamber of Azer. Pub- yerl¡s¸dirilm¡si v¡ t¡davülü Qaydası"nınt¡sdiq lic Legal Entity], No. 760, dated February 3, edilm¡si bar¡d¡”Az¡rbaycan Respublikasının 2016 (Azer.), is available at: http://e-qanun.gov.a Qiym¡tli Kağızlar Üzr¡ Dövl¡t Komit¡sinin z/framework/31990. Qaydaları [Rules of State Securities Committee 14Securities Market Law (Azer.), art.30.4. of Azer. on Placement of and Trading with De- 15Id., art.30.4. rivative Financial Instruments], No. 32-q and 16 dated December 14, 2015 (Azer.), is available at: Id., art.64.3. http://e-qanun.gov.az/framework/31783. 17Id., art.3.4, 3.5, 37, 38, 39, 40, and 41. 23Civil Code (Azer.), art.540 and 545. 18Id., art.30.5. 24Securities Market Law (Azer.), art.1.0.21. 19“Reklam haqqında” Az¡rbaycan Respublikasının Qanunu [Azer. Advertising 25Decree of the President of Azer. on Estab- Law], No. 1281-IVQ, dated May 15, 2015, lishing the Financial Markets Supervision Cham- Az¡rbaycan Respublikasının Qanunvericilik ber of Azer. Public Legal Entity (Azer.), art.4. Toplusu [Azer. QT] [Republic of Azerbaijan Col- 26Id, art.1. lection of Legislation] 2010, No. 07, Item 812 (Azer.), art.33. 27“Publik hüquqi s¸¡xsl¡r haqqında” 20 Az¡rbaycan Respublikasının Qanunu [Azer. Advertising Law (Azer.), art.2.0.1 and 33.1. Public Legal Entities Law] (Azer.), No. 97-VQ, 21Id., art.33.2. dated December 29, 2015, art.2.1, available at: ht 22“Tör¡m¡ maliyy¡ al¡tl¡rinin tp://e-qanun.gov.az/framework/31994#.
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