Financial Market Regulation BCBS / IOSCO Initial Margin Regulations
Last update: 14 May 2021
In response to the financial crisis, the G-20 mandated the Basel Committee on Banking Supervision (BCBS) and Board of International Organization of Securities Commissions (IOSCO) to develop consistent global standards for non-centrally cleared over-the-counter (OTC) derivatives. In September 2013 BCBS-IOSCO published a global policy framework and timetable for OTC derivative margin reform which aimed to reduce systemic risk by ensuring collateral is available to offset losses caused by the default of a derivatives counterparty.
A key element to this is the requirement that financial firms and systemically important non-financial entities exchange both Variation Margin (VM) and Initial Margin (IM) to mitigate counterparty credit risk from uncleared OTC transactions. VM ensures that the current value of a derivative is collateralised and was already a standard feature of the OTC market. IM was traditionally less common but is designed to ensure there is a margin "buffer" to protect against potential losses following a change in value of a derivative position occurring between a counterparty closing out a position upon default of its counterparty and the last exchange of Variation Margin.
Since the release of the final policy framework these global standards have been leveraged by various jurisdictional regulators across the globe to develop their own local rules. Margin rules have been finalised and are being enforced by the following regulators:
|European Supervisory Authorities (ESA)|
|US Prudential Regulators (US PR)|
|US Commodity and Futures Trading Commission (CFTC)|
|US Securities and Exchange Commission (SEC)|
|UK Financial Conduct Authority (UK FCA)|
|Japan Financial Services Agency (JSA)|
|Swiss Financial Markets Supervisory Authority (FinfraG)|
|Monetary Authority of Singapore (MAS)|
|Hong Kong Monetary Authority (HKMA)|
|Canadian Office of the Superintendent of Financial Institutions (OSFI)|
|Australian Prudential Regulation Authority (APRA)|
|South Korean Financial Supervisory Service (KFSS)|
|South Africa National Treasury (SANT)|
IM and VM thresholds are being phased in at different times and are specific to each regulatory jurisdiction. Whether and when a particular counterparty is under a regulatory obligation to exchange IM will depend on:
- Whether it is the type of entity which is subject to IM requirements under a particular regime (an Obligated Entity(1));
- The volume of its Group's(1) non-cleared Over-The-Counter (OTC) derivatives business, commonly referred to as the Aggregate Average Notional Amount (AANA); and
- Who it is trading with
You should note that even if your entity is not directly subject to any IM regime you may still be impacted by the IM rules (an Impacted Entity) and effectively required to exchange IM if you trade with an Obligated Entity. This because such Obligated Entity would have a regulatory obligation to collect IM from you in manner consistent with the regimes to which it is subject.(3)
Each regulator has different rules for determining who is an Obligated Entity and has defined its own compliance dates and AANA threshold values, along with a methodology for calculating the AANA. It is expected that most regulators' compliance dates will broadly provide for the following phase-ins (note: threshold values below are taken from the EU regulations and will differ in each final jurisdictional rule-set; in addition, the currencies differ by rule set).
Phase delayed due to global COVID-19 pandemic
|Obligated Entities with AANA > €50bn(2)||Obligated Entities with AANA>€8bn(2)||Obligated Entities with AANA > ZAR 8trn(2)||Equity Option derogation ends for ESA, HK SFC and UK||Obligated Entities with AANA > ZAR 100bn(2)|
|Obligated Entities with AANA > €3trn(2)||Obligated Entities with AANA > €3trn(2)||Obligated Entities with AANA > €3trn(2)||Obligated Entities with AANA > €2.25trn(2)||Obligated Entities with AANA > €1.5trn(2)||Obligated Entities with AANA > €0.75trn(2)|
(1) Please see full definitions in the ‘What you need to consider’ section
(2) When transacting with another Covered Entity exceeding the AANA Threshold
(3) For example, from an EU margin rules perspective a hedge fund established in the EU or managed by an authorised or registered EU fund manager would be an Obligated Entity. A non EU hedge fund, however, would only be an Impacted Entity and its requirement to exchange IM would be contingent on facing an EU Obligated Entity
What is an "Obligated Entity" and what is a "Group"?
Whether a counterparty is an Obligated Entity and therefore potentially subject to the requirement to exchange IM varies by jurisdiction:
||EU Financial Counterparties (FC) or Non-Financial Counterparties above the Clearing Threshold (NFC+) are obligated when transacting with other FC / NFC+, or Third Country (non-EU) Entities which would be FC / NFC+ if in EU. EU branches of TCE FC-equivalent entities are also obligated in certain circumstances.|
||Covered Swap Entities (Swap Dealer or Security Based Swap Dealer, Major Swap Participant or Major SBS Participants regulated by PR), transacting with other Swap Entities or Financial End Users(1) (bank or other specified regulated financial entity or an investment company, securitization vehicle, or other specified investment pool).|
||Covered Swap Entities (swap dealer or major swap participant not regulated by PR), are obligated when transacting with other Swap Entities or Financial End Users(1) (bank or other specified regulated financial entity or an investment company, securitization vehicle, or other specified investment pool).|
||Covered Swap Entities (security based swap dealer or major security based swap participant not regulated by PR), are obligated to collect (but not post) initial margin when transacting with counterparties except affiliates, financial market intermediaries, commercial end users, sovereign entities (if the SBSD determines the sovereign has minimal credit risk), Bank for international settlements, European Stability Mechanism and Multilateral development banks.|
||Covered entities in-scope when transacting with each other or with a non-Japan entity that is trading OTC derivatives “in the course of business” above a de minimis threshold.
Includes: Type 1 Financial Instruments & Business Operators (FIBOs), Banks that are Registered Financial Institutions (RFIs), Insurance Companies that are RFIs and Trust Accounts that are FIBOS/ RFIs and certain banks (The Shoko Chukin Bank Ltd; Development Bank of Japan Inc.; Shinkin Central Bank; and The Norinchukin Bank), each above a de minimis threshold.
||All Financial Counterparties (FC) and Non-Financial Counterparties (NFC) obligated when transacting with each other, except when a smaller non-financial counterparty (derivative positions below certain thresholds) is involved.|
||Covered Entities are in scope when transacting with each other or a Foreign Covered Entity (provided that trades are booked in Singapore). “Covered Entities” are licensed banks and merchant banks approved as financial institutions.
||Margin requirements apply to Authorised Institutions (AIs) that enter into in-scope derivatives with “Covered Entities” incorporated in or outside HK. Covered Entities include AIs, Licensed Corporations, other regulated financial institutions and others (regulatory text should be consulted for comprehensive definitions).
||Federally-Regulated Financial Institutions (FRFIs) are obligated when transacting with each other and with Financial Entities. Financial Entities include (but are not limited to) deposit-taking institutions, insurance companies, pension funds, hedge funds and asset managers. These must belong to a consolidated Group whose AANA in 2016 or any year thereafter exceeds CAD 12bn.|
||APRA Covered Entities are in-scope when transacting with each other and with Covered Counterparties. “APRA Covered Entities” include: Authorised Deposit-Taking Institutions (ADIs), including foreign ADIs; authorised banking Non-Operating Holding Companies (NOHCs) and authorised insurance NOHCs; Life Companies and registered life NOHCs; and Registrable Superannuation Entities (RSEs) under the SIS Act. “Covered Counterparties” are generally entities that are financial institutions or a systemically important non-financial institutions.
||Financial Companies licensed to conduct finance business by the KFSS are obligated when transacting with other Financial Companies. A "Financial Company" includes banks, broker/dealers, insurance companies, mutual savings banks, and others. The regulatory text should be consulted for a definitive list.|
||UK Financial Counterparties (FC) or Non-Financial Counterparties above the Clearing Threshold (NFC+) are obligated when transacting with other FC / NFC+, or Third Country (non-UK) Entities which would be FC / NFC+ if in UK. UK branches of TCE FC-equivalent entities are also obligated in certain circumstances.|
1) Note that a Financial End User (FEU) is only subject to the US rules when its counterparty is a Covered Swap Entity, and not subject if trading with another FEU
The "Group" definition varies by jurisdiction. Broadly speaking it is the Ultimate Parent of the Covered Entity together with such parent’s subsidiaries (i.e. all entities consolidated in the same set of financial statements), however there are specific jurisdictional definitions and nuances that must be observed, particularly with regards to specific entity types, for example funds. You should consult the specific regulatory text for further details.
When is Credit Suisse an 'Obligated Entity'?
The below table highlights under which regimes Credit Suisse entities can be considered Obligated Entities and directly required to exchange IM when facing an in-scope counterparty.
|CREDIT SUISSE AG2||3|
SECURITIES (USA) LLC3
|CREDIT SUISSE SECURITIES, SOCIEDAD DE VALORES, SOCIEDAD ANONIMA|
1.Credit Suisse International and Credit Suisse Securities (Europe) Ltd’s US rule obligations only apply when facing a counterparty that brings a US nexus into the relationship. We consider a US nexus to be either (i) incorporated within the US; (ii) one or more “offices” located in the US specified on the ISDA Master Agreement between us; (iii) a Foreign Consolidated Subsidiary of a US-organised parent; and (iv) our counterparty’s trades benefit from a guarantee from a US entity. It should also be noted that US CFTC rules include a “principal place of business” test that may trigger a US nexus, but this test does not apply to the US PR rules.
2.Credit Suisse AG's branches apply substituted compliance for European rules in order to discharge its regulatory obligations under FINMA, MAS, HK MA, OSFI and APRA regimes. Credit Suisse AG Tokyo Branch is a registered RFI but is not yet a “Covered Entity” as it does not meet the de minimis branch trading threshold. However, should it meet that threshold in the future, Tokyo Branch will be considered a “Covered Entity” and will be obliged to exchange IM in accordance with the JFSA margin rules.
3.Credit Suisse AG’s Seoul branch is expected to become obligated to exchange IM with on-shore Covered Counterparties from September 2020.
4.Credit Suisse Securities (USA) LLC is not directly obligated to exchange IM under any of the published rules. However, note that it is considered a ‘Covered Counterparty’ under all regimes and will therefore be required to comply in order to facilitate a counterparty’s discharging of their own regulatory obligations.
What transactions are in scope for IM
Generally, all non-centrally cleared OTC derivatives are subject to the exchange of IM between in-scope parties, with the exception of FX spot, deliverable FX forwards and deliverable FX swap transactions, which are universally exempt from IM across all jurisdictional rule-sets. In addition, most regimes (including US, EU, UK and Swiss) also exclude equity options although these may come into scope on a grandfathered basis at a later date.
The margin obligations vary between jurisdictions but broadly, there are key requirements which are generally consistent across all regulations. These include:
|Segregation & Rehypothecation of IM||
CS prefers to use a collateral schedule that contains only high quality liquid assets ("HQLA") to ensure transparency in pricing and a level playing field between both parties. By using Credit Suisse’s collateral schedule, we hope to:
- Enable effective risk management and the ability to easily liquidate collateral at a market observable price.
- Avoid future challenges when agreeing trade novations or an unwind due to idiosyncratic access to non-HQLA collateral.
- Align to CCP IM requirements in order to enable smooth transition to clearing.
Risk Management Assessment
The credit quality steps, tenor, concentration limits and haircut schedules provided by the Regulatory Technical Standards ("RTS") are a regulatory minimum.
Calculation Agent (IM)
Under certain rules sets it is important that a counterparty is able to independently validate the initial margin call its counterparty is making and has the ability to reconcile and dispute the margin calculations. These requirements are more stringent for Obligated Entities than Impacted Entities and we would generally expect Obligated Entities to be able to be able to calculate SIMM independently on a daily basis. For clients that are Impacted Entities Credit Suisse will usually be able to offer a SIMM calculation agency service subject to our standard terms.
Margin Approach (IM):
Where a counterparty or client that posts non-regulatory mandated independent amounts (Non Reg IA) comes in scope for initial margin (Reg IM) it is imperative that the parties agree how they will recognise and treat these two margin flows going forward.
The ISDA 2018 initial margin document templates define 3 possible Margin Approaches that can be used to determine the interaction between the amount of Reg IM and Non-Reg IA that will need to be exchanged by in scope parties on a given day. When negotiating a regulatory compliant IM collateral document, the two parties will need to agree to use one of the three approaches for their daily margin calls. The three methods are:
1. Distinct Margin Flow (IM) Approach
- Parties using the distinct margin flow approach will in general calculate the amount of Reg IM that will need to be exchanged without any interaction with or reference to any Non-Reg IA that is required to be posted
- The Reg IM collateral process will run in parallel to the Non-Reg IA collateral process with discrete settlement of the two collateral calls for any party that posts both Reg IM and Non-Reg IA (which could be held in the same custodian account if the Non-Reg IA is segregated)
- The Distinct Margin Flow (IM) Approach can be used irrespective of whether the Non-Reg IA is posted directly to Credit Suisse or segregated at a custodian. There is no requirement for the Non-Reg IA to comply with the IM regulations
2. Allocated Margin Flow (IM/IA) Approach
- The allocated margin flow approach allows parties to reduce their Non-Reg IA collateral call by the amount of their Reg IM requirement (less any applicable threshold) for trades covered by the same master agreement
- Collateral documents should be drafted such that non Reg IA covers all relevant transactions, including those covered by the Reg IM collateral document
- The interaction between the two collateral amounts in the calculation process will generally not affect the settlement process – two discrete collateral amounts will be settled for any party that posts both Reg IM and Non-Reg IA
- On a daily basis there may be collateral movements required between custodian held regulatory IM and IA held by Credit Suisse
- The Allocated Margin Flow (IM/IA) Approach can be used irrespective of whether of the Non-Reg IA is posted directly to Credit Suisse or segregated at a custodian. There is no requirement for the Non-Reg IA to comply with the IM regulations
3. Greater of Margin Flow (IM/IA) Approach
- The “greater of” method consolidates the calculation of Reg IM and Non-Reg IA for one master agreement into a single collateral call per party. This call is calculated as the greater of the Reg IM requirement (less any applicable threshold) and any Non-Reg IA. This is then settled as one collateral call per party (covering both Reg IM and Non- Reg IA) and held at a custodian
- Collateral documents should be drafted such that non Reg IA covers all relevant transactions, including those covered by the Reg IM collateral document
- The Greater of Margin Flow (IM/IA) Approach can only be used if: (i) the Non-Reg IA is to be held in the same segregated custodian account as the Reg IM; and (ii) the Non-Reg IA is Reg IM compliant
The choice of which margin approach is the most appropriate for a given relationship will be dependent on a number of factors including;
- Operational preference
- Whether any Non-Reg IA is exchanged on an existing CSA
- Whether any existing collateral is already segregated at a custodian
- Whether Non-Reg IA should cover new or only legacy trades going forward
- Whether Non-Reg IA is calculated comprehensively on all transactions, only as a fixed amount, or for specific risks not covered by Reg IM
Following the BCBS IOSCO statement released on 5th March, 2019 and further regulatory guidance regarding IM thresholds (click here for details) Credit Suisse does not propose to establish custodial relationships and/or enter into IM documentation with any Phase 5 or 6 counterparty whose IM exposure is not immediately anticipated to exceed the EUR 50 million (or equivalent) regulatory threshold. In these circumstances, Credit Suisse will internally monitor our respective IM exposures on an on-going basis. Where our monitoring suggests that the IM threshold is at risk of being exceeded we will endeavour to engage with you in good time to commence the IM papering process.
Key highlights of the Threshold Monitoring process:
- ISDA Regulatory Initial Margin AANA Self-Disclosure (SDL) Letter: Full population of the ISDA Regulatory Initial Margin AANA SDL Answer Sheet (click here for details) is a prerequisite in our ability to provide this service. In the event the ISDA SDL is not returned before the regulatory compliance date, this will likely result in an inability to continue trading non-centrally cleared OTC derivatives with Credit Suisse.
- One-way monitoring: We do not expect to perform any reconciliations and/or send daily Initial Margin numbers to counterparties. If a counterparty requests to view the Initial Margin for Threshold Monitoring on a daily basis then this could be made available via Acadiasoft.
- Frequency: Threshold Monitoring will be performed by Credit Suisse on a daily basis.
- Aggregation Methodology: Credit Suisse will leverage the information obtained from the ISDA Regulatory Initial Margin AANA SDL in order to aggregate the IM from the Legal Entity level (LEI) to the Ultimate Parent Entity level for the Margin Group (the group of entities required to aggregate their AANA under each applicable regime). IM will be compared on both the Call and Post side to the Threshold Amount and Currency applied at the Ultimate Parent Entity level.
- Threshold Amount and Currency: The Threshold Amount and Currency will differ depending on the applicable Regime. Where multiple Regimes apply to the Ultimate Parent Entity, we will apply the stricter regulatory Threshold Amount and Currency. This is determined by conversion to a common currency using daily prevailing Foreign Exchange rates.
- Monitoring and Communication: Credit Suisse will monitor our respective IM exposures and communicate with you if we believe you fall within the below categories:
- Papering: Where Credit Suisse has established that the IM exposure is significant enough, we will seek to begin papering of Initial Margin documentation. We will aim to do this in good time to mitigate the risk of an internal limit breach.
- Internal Limit Breach: Credit Suisse will establish its own internal haircut to the Threshold Amount and Currency at Ultimate Parent Entity level. Where we establish that the IM has breached our internal limit, it is likely that no further trading of non-centrally cleared IM OTC derivative products will be permitted until papering of IM documents has completed. Credit Suisse will endeavour to work with you in good faith to identify any exceptions to this.
Credit Suisse will be reaching out to all counterparties we believe to be in scope for Threshold Monitoring with more details in due course. If you have any questions concerning Threshold Monitoring or the key steps required to achieve compliance, please contact our client outreach team: email@example.com.
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