Vedder Thinking | Articles Margin Rules for Non-Cleared Swaps and Industry Initiatives for Implementation
December 12, 2016
With the compliance date of March 1, 2017, firmly etched in stone under the U.S., Canadian and Japanese variation margin regimes and with Europe soon to follow, the International Swaps and Derivatives Association, Inc. (ISDA) has been actively engaging market participants with a flurry of news alerts, market guidance notices and even videos in hopes of drawing attention to the standardized tools available to facilitate compliance with the various new margin requirements. The new margin requirements may require you to make changes to your derivatives trading documentation, in particular, to any credit support documentation. The extent to which any changes are required depends on the jurisdictions involved and the terms of existing trading documentation. Given the substantial amount of work that needs to be done to address these requirements, we expect that regulated entities under the rules will start reaching out to their trading counterparties to commence the implementation process. If you’ve traded a swap with a registered swap dealer in the U.S., Europe, Canada or Japan, here's what you could expect:
ISDA Regulatory Margin Self-Disclosure Letter
As the first major step by the industry to kick-off compliance efforts, ISDA published the Regulatory Margin Self-Disclosure Letter1 (the "SDL"). The SDL is intended to be a standardized form for sharing information regarding an entity in order to determine which margin regimes apply to its trading relationships. Once these determinations are made, parties will then be able to determine a documentation strategy that is compliant with the applicable margin regime. The letter solicits both general information along with jurisdiction or regulator-specific information. Completion of the letter will require you to perform some degree of commercial and legal analysis, particularly where multiple jurisdiction sections are relevant. Although there is no regulatory requirement to exchange the SDL, we highly recommend you use it, or at the very least, become familiar with its contents. The SDL will assist parties with determining the appropriate elections to be made under the ISDA 2016 Variation Margin Protocol, discussed below.
ISDA 2016 Variation Margin Protocol
Similar to prior ISDA protocols used to implement derivatives regulation, the ISDA 2016 Variation Margin Protocol2 (the "VM Protocol") is designed to provide parties with an efficient and comprehensive solution for compliance with the margin regime applicable to its trading relationship. Parties will need to complete an adherence letter, pay an adherence fee ($1000), and complete detailed questionnaires for delivery to each of their regulated trading counterparties. Once the parties "match" questionnaires with their counterparties, elections made in the questionnaires will apply to the trading relationship. Unlike prior protocols, however, the VM Protocol contains some notable differences in "matching" procedures and also contains various methods that parties can use to make any required changes to their trading documentation. Because of this increased complexity, we recommend you start familiarizing yourself with the process well in advance of March 1, 2017.
To encourage parties to use these standardized tools, ISDA has partnered with IHS Market to create ISDA Amend 2.03, a web-based tool designed to automate the SDL and VM Protocol process. The ISDA Amend platform enables parties to electronically share the SDL and the VM Protocol questionnaires through a centralized online platform, removing the need for bilateral negotiations. Parties will be able to make elections under the VM Protocol, including which regulatory regimes apply and which of the various methods they would like to use to make the required changes to their trading documentation. ISDA Amend will automate the reconciliation of those questionnaires between parties with the aim of producing documentation compliant with the applicable margin regime.
The new margin requirements have broad implications for the derivatives market. Not only will documentation changes be required, but many operational changes resulting from adapting the documentation will need to be considered as well. Forms of eligible collateral will likely change, as will margin call timing and other collateral management functions. We encourage you to start planning so that you can continue trading with any regulated entities on or after March 1, 2017.
If you have questions about the margin rules for non-cleared swap and industry initiatives, please contact Juan M. Arciniegas at +1 (312) 609 7655 or your Vedder Price attorney.
1 A pdf version of the Self-Disclosure Letter is available at: http://www2.isda.org/functional-areas/wgmr-implementation/isda-regulatory-margin-self-disclosure-letter.
2 More information about the VM Protocol is available at: http://www2.isda.org/functional-areas/protocol-management/faq/29.
3 More information about ISDA Amend is available at: http://www.markit.com/Product/ISDA-Amend.