So, the expected announcement of a one year extension to Uncleared Margin Requirements Phase V was made by the Basel Committee and IOSCO.
However, it isn’t as simple as that. What we now have, in effect, is a Phase Va and a Phase Vb – and even more confusion over when people are going to be caught by the rules and what they need to do about it.
What exactly are the changes to Uncleared Margin Requirements?
The headline is that Phase V – where firms with an aggregate average notional amount (AANA) of greater than €8 billion will need to pay Initial Margin on non-centrally cleared derivatives – has been moved back a year to 1 September 2021. But what they have additionally done is introduce an interim threshold of €50 billion AANA, which will come into force on 1 September 2020 (the original date for Phase V).
“So, although some firms have got a stay of execution until 2021, others will still need to meet the original date.”
What is the impact of the extension to Uncleared Margin Requirements?
The obvious answer to this question is a number of firms can delay looking at UMR. However, given the AANA thresholds, the majority of firms will have to continue to run these calculations. Between the €750 billion threshold for Phase IV and the €8 billion for Phase V, it was relatively easy to determine if you were caught by Phase IV or not.
Here at OpenGamma, our experience has been that there is still a lot of ambiguity around how to treat certain products in the industry, and that calculating AANA alone is a difficult task, before you even get to Initial Margin. As a result, even if you are likely to fall below the new threshold, it could be a good idea to carry on with this work – making lots of notes as you go – so that it is an easier task if it has to be repeated next year.
If I’m happy that I’m below the new €50 billion threshold can I relax?
You’d like to think that the answer to this question would be ‘yes’. But the reason the Basel Committee and IOSCO have had to introduce this delay is that so many firms are struggling to meet the original deadline. Even their attempt in March to make the burden easier – allowing any entity where the bilateral Initial Margin requirement fell below the €50 million threshold to not complete the necessary documentation and operational set up – did not allow the original timescales to be met…well, not in a ‘smooth and orderly’ fashion anyway.
“Firms should really be using this extension as an opportunity to get things right.”
In their press release the Basel Committee and IOSCO stated that they ‘expect that covered entities will act diligently to comply with the requirements by this revised timeline and strongly encourage market participants to make all relevant arrangements on a timely basis’. Meaning, they’re not expecting anyone to sit back and wait until next year before they get going again.
So, what should I be doing now?
The answer is; carry on preparing for the final phase because it will creep up on you sooner than expected. This delay just means that it is less likely that you will be rushed and end up with a sub-optimal implementation. Get those custodial agreements re-papered, work out whether you are using SIMM or Grid. If you decide to use SIMM, choose how you’re going to calculate the necessary sensitivities and don’t forget the day-to-day reconciliation.
And what about that €50 million threshold? Not setting up the infrastructure to post regulatory Initial Margin is fine if you never exceed the threshold (although most banks are likely to expect this to be in place even if it is never used)…but you will need a way of optimising your trading and monitoring your margin to make sure that you stay below this level.
Some firms dragged into Phase V have only recently realised that they will have to post hundreds of millions in Initial Margin for the first time. So, if nothing else, this delay provides some much needed time to put detailed plans in place in order to trade more efficiently. In the months ahead, expect to see more and more asset managers affected by the rules moving away from trading bilateral uncleared derivatives, and shifting towards central clearing.