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David Woolcock 04-May-2021 20:11:09 7 min read

Time to Be Clear on Uncleared Margin Rules (UMR)

Following regulatory forbearance due to Covid and the resultant extensions to the implementation dates, it is time to review arrangements to comply with UMR. The number of in-scope entities will drastically increase as we near the Phase 5 & 6 dates. Entities will be subject to the rules from 1st September 2021 if the aggregate month-end average notional amount is above EUR 50 billion and from the 1st September 2022 if above EUR 8 billion. This will bring into scope over a thousand firms and result in a requirement to re-paper clients accordingly. These amounts equally apply to the UK as the recent consultation by the PRA & FCA outline some proposed changes but do not convert the pre-Brexit notional amounts to GBP.

The UK consultation closes on 19th May 2021, and the proposed changes are anticipated to be effective by July 2021. Globally all firms are on similar timetables to implement these measures that emanated from the Pittsburgh G20 summit post the 2008 Global Financial Crisis. In the UK, regulatory forbearance for physically settled FX forwards and swaps with non-financial companies are covered in the consultation and will become a permanent exemption for exchanging variation margin. The consultation also keeps the minimum transfer amounts at EUR500,000, mirroring the EU EMIR requirements.

These measures aim to reduce credit risk in financial markets and increase transparency. They came under Basel III’s UMR framework that required in-scope firms to compute an initial margin mainly using the ISDA Standard Initial Margin Model (SIMM) methodology. Of course, the catch is that by the relevant dates, any firm close to the thresholds will need to continually compute to see if they cross the threshold and thereby come under UMR. This is prompting many more firms below the threshold to implement solutions now to be well prepared. As noted in the March 2019 press release from BCBS/IOSCO, before the Covid extensions –

“In the remaining phases of the framework’s implementation in 2019 and 2020, initial margin requirements will apply to a large number of entities for the first time, potentially involving documentation, custodial and operational arrangements. The Basel Committee and IOSCO note that the framework does not specify documentation, custodial or operational requirements if the bilateral initial margin amount does not exceed the framework’s €50 million initial margin threshold. It is expected, however, that covered entities will act diligently when their exposures approach the threshold to ensure that the relevant arrangements needed are in place if the threshold is exceeded.”

Press release: BCBS/IOSCO statement on the final implementation phases of the Margin requirements for non-centrally cleared derivatives

This statement encapsulated the issues faced by many firms coming into scope; that Initial Margin (IM) has to be exchanged and must be held by an unconnected Custodian from the parties to the trade. Many have experience of exchanging variation margin, but with an IM requirement, this prompts technological changes to bring operational efficiency to bear given SIMM requirements. Also, on top of the functional changes required, firms that come into scope will need new legal documentation. Implementation will require monitoring and technology to make this a much easier process.

The picture is more nuanced in the USA but consistent with other jurisdictions. In the US, UMR is implemented via the Prudential Regulators and the CFTC and, therefore, applies primarily to banks as funds are not directly regulated for UMR. However, they need to comply with UMR when transacting with the banks. As already noted, IM placement is a two-way street, in-scope parties are both required to post IM to one another. IM can no longer be transferred directly between counterparties and re-hypothecated. IM must be held in segregated accounts with an unaffiliated third-party custodian. Equally, UMR will only apply to new transactions and not legacy transactions unless they are re-negotiated in some way which would bring the legacy contract into scope, which adds to the complexity.

Recent events, such as those we witnessed with the Archegos implosion, are concentrating the mind on the question of margin and collateral and how it can keep the markets safer. Former CFTC Chairman, Chris Giancarlo, has long been an advocate of segregated IM. In a speech in 2019, he noted that –

“Margin models are the first line of defense of derivatives clearing. This idea is based on the simple premise that if a customer cannot afford initial margin, the customer cannot trade.

Remarks of CFTC Chairman J. Christopher Giancarlo at the Futures Industry Association Law & Compliance Division Conference

Following the Archegos Capital Management default, he noted: “that a distributed ledger, which all market participants would be on, is the way you could have a comprehensive view of any institution’s activities and all markets, whether it be a clearinghouse or a prime broker’s exposure”. This follows on from his comments in 2016 in which he stated that DLT “could be the biggest technological innovation in the financial services industry and financial market regulation in a generation or more. Distributed ledgers have the potential to (i) reduce some of the dependence on a trusted third party; (ii) mitigate centralized systematic risk; (iii) defend against fraudulent activity; and (iv) improve data quality and governance.” Whatever the future holds, you can be sure technology will be the enabler!

To find out how Eurobase can bring efficiency to this complexity, get in touch with us here for more information.

Our Collateral Management module has an entire agreement templates for the lifecycles of, ISDA and GMRA, and automates exposure management, margin calculation and calls. The solution includes reporting and dashboards to aid in managing and monitoring contractual relationships and transactions. The modular solution gives overall control of UMR risk from front to back with automated inputs and outputs.


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David Woolcock

David Woolcock is an independent consultant and Director, Business Consulting at Eurobase. In addition, David is Chair of the Committee for Professionalism at ACI – The Financial Markets Association as well as Vice-Chairing the ACI FX Committee. He is also a member of the Market Practitioners Group for the Bank of International Settlement's FXWG that wrote the FX Global Code.