8 Things You Should Know About Margining Uncleared Swaps

Commercial entities, as well as, financial institutions will be impacted by new margin requirements for uncleared swaps. Most will fare better than expected. There are some facts organizations that transact in Swaps should know.

  1. The FDIC and the Office of the Comptroller of Currency approved final margin requirements for uncleared swaps on Thursday October 22nd.
  2. Uncleared Swaps are bilateral Swap transactions between two counterparties that are not margined through third-party central clearing houses, such as the ICE or CME.
  3. Rules are proposed to be phased-in over four years beginning September 2016, as per a prioritization calendar. There will be no retroactive requirements.
  4. The final rule establishes the minimum amount of initial and variation margin that the covered swap entity must exchange with counterparties. Approximately 30% more collateral will be required for uncleared swap transactions, than cleared swaps.
  5. Final rules ease inter-affiliate margining requirements. They require a “covered swaps entity” to collect margin from the affiliate at the outset of a transaction. Both entities were required to post collateral in previous drafts.
  6. Commercial entities, and small banks, will be exempt from clearing when transacting swaps to hedge commercial activity. Exemption does not mean financial institutions will not require collateral. Banks still need to manage their counterparty credit exposures.
  7. A broader list of acceptable collateral is proposed in the final rules than in earlier drafts.
  8. The SEC and CFTC still need to finalize their rules. These rules may be different than FDIC rules. They were consulted on FDIC rules.

The 2010 Dodd-Frank Act requires that all swap transactions are cleared through a central clearing house to reduce systematic risks stemming from default. In theory, clearinghouses provide financial assurance by collecting standardized collateral from all cleared transactions. Many transactions are still contracted bilaterally between two counterparties and some are too complex for common clearing. 75% of Treasury Swaps and between 40-60% of other asset classes are currently cleared.

To encourage clearing and ensure capital adequacy, regulators are required by the Dodd-Frank Act to create collateralization rules for uncleared swaps. Rules for margining uncleared swaps have been under debate for some time due to the many issues such as complexity of transactions, intercompany transactions, regulatory jurisdiction by multiple regulators and global regulatory harmonization. This final rule is good progress, even if not the best answer.

Given the SEC and CFTC are yet to finalize rules, FDIC rules should act as a template, but not a final for commercial end-users of derivatives. Data retention and reporting rules are still essential.

For more information see FDIC Press Release and Links.

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Sid Jacobson works with organizations to improve their risk management and compliance capabilities. With over 25 years of experience driving change and growth for companies engaged in energy and derivatives markets, Sid is known for strategic visioning complemented with a successful track record implementing improved commodity strategies, commercial operations, risk management and regulatory compliance. Sid is the founder of Pivotal Risk Advisors.

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