In April 2019, the International Swaps and Derivatives Association, Inc. (“ISDA”) published the results of its latest survey of the margin amounts collected by market participants. The publication identifies key themes derived from a 2018 survey of firms that are subject to the Prudential Regulator or U.S. Commodity & Futures Trading Commission (“CFTC”) initial margin (“IM”) requirements. In this post, we summarize themes presented in the survey summary in the context of the margin requirements.
As background, the Prudential Regulator and CFTC margin requirements require swap dealers to exchange IM and variation margin (“VM”) with respect to in-scope uncleared swaps, with certain exceptions. Whereas the VM requirements became applicable to virtually all in-scope uncleared swaps through a “big bang” approach in 2017, U.S. regulators phased in the IM requirements over a five year period. Phase 1 of the IM requirements began in September 1, 2016, and applied to the institutions with the largest trading portfolios, and the second and third phases took place over the next two years. Phase 4 is scheduled for September 1, 2019, and will apply to swap dealers and any counterparty that is a financial entity or swap dealer with an average aggregate notional amount (“AANA”) of $750 billion or more. Beginning on September 1, 2020, Phase 5 will apply to swap dealers and any counterparty with an AANA of $8 billion or more.
2018 ISDA Margin Survey and Findings
Through information collected in its margin survey, ISDA analyzed margin amounts and types of collateral posted as margin for both uncleared and cleared derivatives transactions. ISDA surveyed a number of firms that were subject to the first three phases of the IM requirements.
Among other topics, the summary highlights two notable themes in the uncleared margin context:
- Overall Increase In Regulatory Uncleared Margin Markets: The amount of IM that is collected for purposes of meeting the regulatory IM requirements (“regulatory IM”) is steadily increasing. The summary states that the surveyed firms collected about $162.7 billion of IM in 2018. The increase in regulatory IM not only reflects the increase of entities that are becoming subject to IM with each new phase, but the increase in new transactions. For example, the summary states that IM collected by Phase 1 firms totaled approximately $157.9 billion at year-end, an increase of 47% over the amount collected at the end of the first quarter of 2017 ($107.1 billion).
- Increase of Discretionary Margin: 2018 also demonstrated an 22% increase in IM collected by swap dealers that was not regulatory IM (e., “discretionary IM”). $74.1 billion of IM collected by Phase 1 firms was from counterparties and/or for transactions that were not actually subject to the margin requirements. These transactions might not be subject to the margin requirements because they fall within a transaction-based exception (for example, legacy transactions or transactions that qualify for an exception from the clearing mandate) or the counterparty itself is out-of-scope for purposes of the margin rules (for example, a non-financial end user).
Looking Ahead: Final Phases of IM Requirements
In quantifying the continued growth of regulatory and discretionary margin amounts, the ISDA survey report signals the magnitude of the amount of regulatory margin once the final phases of IM come into effect.
As we reported in a prior posting, a publication released by the CFTC’s Office of the Chief Economist acknowledged that, while the first four phases of the IM may capture just over 40 entities, Phase 5 would have a much more significant effect as it could impact over 700 entities. This reality has caused market participants and industry groups to not only express concern but also suggest amendments to the rules to limit their scope (for example by raising the AANA threshold for Phase 5).
Since our posting, international bodies and regulators have issued statements, or taken regulatory actions, that seem to acknowledge the impact of the pending final phases. For example, in March 2019, the Basel Committee on Banking Supervision (“BCBS”) issued a statement on the final phases of the margin requirements, which recognized the challenges faced by market participants in the final phases. Though the BCBS noted the broad scope of the Phase 5 requirements, it committed only to “continu[ing] to monitor the effect of meeting the final stage of phase-in, scheduled for 2020.” The CFTC issued an interim final rule in April 2019 which will provide some relief to market participants as it ensures that counterparties with legacy uncleared transactions are able to continue to rely on the legacy status even if the transactions are transferred as a consequence of Brexit. Nevertheless, the final phases of the IM requirements appear to be approaching without any broader based relief.
You can locate the ISDA report on the 2018 Margin Survey here.
You can locate our November 1, 2018 post on the CFTC Office of the Chief Economist here.
You can locate the BCBS March 5, 2019 statement here.
You can locate the CFTC interim final rule here.
Good day DR2.