The regulation for Uncleared Margin Rules (UMR) was set in motion at the 2009 G20 meeting following the global financial crisis. It requires firms using Over-The-Counter (OTC) derivatives to post margin on those transactions. Regulatory authorities have moved to delay the final two implementation phases for UMR by one year due to disruptions caused by the coronavirus pandemic.
The Basel Committee and International Organisation of Securities Commissions (IOSCO) confirmed that the final phase will now take place on 2 September 2022, at which point thousands of buy-side firms with derivatives of a notional value exceeding €8 billion will have to comply with the rules.Meanwhile, firms with derivatives of a notional value exceeding €50 billion will also see a delay, and be subject to the requirements from 1 September 2021, one year later than originally planned.
In Europe under EMIR, the initial margin requirements for bilateral, uncleared OTC derivatives require firms to post collateral for transactions including FX forwards, cross-currency swaps, exotics and equity options, either on a tri-party or third-party basis. Financial counterparties and non-financial counterparties above the clearing threshold are covered by the margin requirements whichhave been phased in annually. The International Swaps and Derivatives Association (ISDA) haspublished a useful set of tables showing which instruments are in scope and their margin requirements by jurisdiction. They can be viewed here.
While the postponement is most welcome, the next two phases (5&6) are problematical due to the sheer number of in-scope entities that will be captured by the requirement. In my last blog on LIBOR reform Back aboard LIBOR Reform – full steam ahead in the UK; we noted the requirement to re-negotiate contracts that refer to LIBOR by the end of 2021. UMR will require a similar challenge, to re-paper, given the step change in the numbers involved. The number of firms affected is estimated to go from the hundreds to well over a thousand. By way of comparison, Phase 4 brought in sub-twenty. Therefore, the ramp-up could overwhelm firms if early planning is not undertaken.
The biggest group affected by this is buy-side and smaller financial firms, with many being unprepared, given they are also currently focused on LIBOR replacement, with the consequence that UMR risks being overlooked. Given, with the forthcoming thresholds, that many firms who will be subject to the requirement have not been required to post margin previously, the timetable still looks tight even with the postponement. It is commonly accepted that implementing UMR requirements is usually a 12-18-month process between technology, operations, risk, and legal. This means that a need for robust planning is imminent.
Such is the enormity of the task for all concerned Timothy Keady, DTCC chief client officer and head of DTCC Solutions has called for industry unity in working together to automate the margin process. It is indeed time to move margin from the current manual processes, emails and even faxes to the modern age. As Timothy puts it in his appeal to the industry –
“If too many firms wait until the next crisis to migrate from manual to automated processing of margin calls, we will face the same issues again and perhaps to a worse degree. We must learn from the past and act to protect the industry, our firms and our underlying clients by fostering the adoption of automated margin call processes. While such action won’t prevent the next black swan, it will better prepare all of us for the particular challenges the next crisis delivers.”
So, as we go on our summer vacations, the return will be a busy one with ongoing stresses compounded with the need to push ahead with not only LIBOR reform but also the tricky UMR requirements.