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«Basel Committee on Banking Supervision Board of the International Organization of Securities Commissions Margin requirements for non-centrally ...»

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A revised document was issued in March 2015. http://www.bis.org/bcbs/publ/d317.htm

Basel Committee

on Banking Supervision

Board of the


Organization of

Securities Commissions

Margin requirements

for non-centrally

cleared derivatives

September 2013

A revised document was issued in March 2015. http://www.bis.org/bcbs/publ/d317.htm

A revised document was issued in March 2015. http://www.bis.org/bcbs/publ/d317.htm

This publication is available on the BIS website (www.bis.org) and IOSCO website (www.iosco.org).

© Bank for International Settlements 2013. All rights reserved. Brief excerpts may be reproduced or translated provided the source is stated.

ISBN 92-9131-941-4 (print) ISBN 92-9197-941-4 (online) A revised document was issued in March 2015. http://www.bis.org/bcbs/publ/d317.htm A revised document was issued in March 2015. http://www.bis.org/bcbs/publ/d317.htm Contents Part A: Executive summary

Part B: Key principles and requirements

Element 1: Scope of coverage – instruments subject to the requirements

Element 2: Scope of coverage – scope of applicability

Element 3: Baseline minimum amounts and methodologies for initial and variation margin....... 10 Element 4: Eligible collateral for margin

Element 5: Treatment of provided initial margin

Element 6: Treatment of transactions with affiliates

Element 7: Interaction of national regimes in cross-border transactions

Element 8: Phase-in of requirements

Appendix A

Standardised initial margin schedule

Appendix B

Standardised haircut schedule

Margin requirements for non-centrally cleared derivatives A revised document was issued in March 2015. http://www.bis.org/bcbs/publ/d317.htm A revised document was issued in March 2015. http://www.bis.org/bcbs/publ/d317.htm Abbreviations

–  –  –

Margin requirements for non-centrally cleared derivatives A revised document was issued in March 2015. http://www.bis.org/bcbs/publ/d317.htm A revised document was issued in March 2015. http://www.bis.org/bcbs/publ/d317.htm Part A: Executive summary This document presents the final policy framework that establishes minimum standards for margin requirements for non-centrally cleared derivatives as agreed by the Basel Committee on Banking Supervision (BCBS) and the International Organization of Securities Commissions (IOSCO). This final framework was developed in consultation with the Committee on Payment and Settlement Systems (CPSS) and the Committee on the Global Financial System (CGFS).


The economic and financial crisis that began in 2007 exposed significant weaknesses in the resiliency of banks and other market participants to financial and economic shocks. In the context of over-thecounter (OTC) derivatives in particular, the recent financial crisis demonstrated that improved transparency in the OTC derivatives markets and further regulation of OTC derivatives and market participants would be necessary to limit excessive and opaque risk-taking through OTC derivatives and to mitigate the systemic risk posed by OTC derivatives transactions, markets, and practices.

In response, the Group of Twenty (G20) initiated a reform programme in 2009 to reduce the systemic risk from OTC derivatives. As initially agreed in 2009, the G20’s reform programme comprised

four elements:

All standardised OTC derivatives should be traded on exchanges or electronic platforms, where  appropriate.

All standardised OTC derivatives should be cleared through central counterparties (CCPs).

 OTC derivatives contracts should be reported to trade repositories.

 Non-centrally cleared derivatives contracts should be subject to higher capital requirements.2  In 2011, the G20 agreed to add margin requirements on non-centrally cleared derivatives to the reform programme and called upon the BCBS and IOSCO to develop, for consultation, consistent global standards for these margin requirements.3 To this end, the BCBS and IOSCO, in consultation with the CPSS and CGFS, formed the Working Group on Margining Requirements (WGMR) in October 2011 to develop a proposal on margin requirements for non-centrally cleared derivatives for consultation by mid-2012.

In July 2012, an initial proposal was released for consultation. The initial proposal was followed by an invitation to comment on the proposal by 28 September 2012. Additionally, a quantitative impact study (QIS) was conducted to assess the potential liquidity and other quantitative impacts associated with mandatory margining requirements.

Throughout this paper, the term “non-centrally cleared derivatives” is used as shorthand to refer to derivatives that are not cleared through a central counterparty.

G20, Pittsburgh summit declaration, www.g20.utoronto.ca/2009/2009communique0925.html.

G20, Cannes summit final declaration, www.g20civil.com/documents/Cannes_Declaration_4_November_2011.pdf.

Margin requirements for non-centrally cleared derivatives A revised document was issued in March 2015. http://www.bis.org/bcbs/publ/d317.htm In February 2013, the BCBS and IOSCO released a second consultative document that reflected the near-final policy framework after careful consideration of the responses to the first consultative document as well as the QIS results. The consultative document sought comment on four questions relating to certain specific aspects of the near-final margin framework.

A large number of comments were received on the near-final margin framework. These comments have been considered in updating the proposal and specifying a final global framework for margining requirements on non-centrally cleared derivatives.

The following document lays out the key objectives, elements and principles of the final margining framework for non-centrally cleared derivatives.

Objectives of margin requirements for non-centrally cleared derivatives

Margin requirements for non-centrally cleared derivatives have two main benefits:

Reduction of systemic risk. Only standardised derivatives are suitable for central clearing. A substantial fraction of derivatives are not standardised and cannot be centrally cleared.4 These noncentrally cleared derivatives, totalling hundreds of trillions of dollars in notional amounts,5 pose the same type of systemic contagion and spillover risks that materialised in the recent financial crisis. Margin requirements for non-centrally cleared derivatives would be expected to reduce contagion and spillover effects by ensuring that collateral is available to offset losses caused by the default of a derivatives counterparty. Margin requirements can also have broader macroprudential benefits, by reducing the financial system’s vulnerability to potentially destabilising procyclicality and limiting the build-up of uncollateralised exposures within the financial system.

Promotion of central clearing. In many jurisdictions, central clearing will be mandatory for most standardised derivatives. But clearing imposes costs, in part because CCPs require margin to be posted. Margin requirements on non-centrally cleared derivatives, by reflecting the generally higher risk associated with these derivatives, will promote central clearing, making the G20’s original 2009 reform programme more effective. This could, in turn, contribute to the reduction of systemic risk.

The effectiveness of margin requirements could be undermined if the requirements were not consistent internationally. Activity could move to locations with lower margin requirements, raising two


The effectiveness of the margin requirements could be undermined (ie regulatory arbitrage).

 Financial institutions that operate in the low-margin locations could gain a competitive  advantage (ie unlevel playing field).

IMF (Global Financial Stability Report, April 2010, Chapter 3) assumes that one quarter of interest rate swaps, one third of credit default swaps, and two thirds of other OTC derivatives will not be sufficiently standardised and liquid to be centrally cleared.

A recent BIS survey (Semiannual OTC derivatives statistics at end-June 2012) shows that notional amount outstanding for OTC derivatives totalled USD 639 trillion in June 2012.

–  –  –

Margin and capital Both capital and margin perform important and complementary risk mitigation functions but are distinct in a number of ways. First, margin is “defaulter-pay”. In the event of a counterparty default, margin protects the surviving party by absorbing losses using the collateral provided by the defaulting entity. In contrast, while capital adds loss absorbency to the system, because it is “survivor-pay”, using capital to meet such losses consumes the surviving entity’s own financial resources. The shift towards greater reliance on margin will have a useful influence on incentives. Greater reliance on margin will help market participants to better internalise the cost of their risk-taking, because they will have to post collateral when they enter into a derivatives contract. It will also promote resilient markets in times of stress, when a market participant who has not received margin could be under pressure to withdraw from trading to preserve its capital.

Second, margin is more “targeted” and dynamic, with each portfolio having its own designated margin for absorbing the potential losses in relation to that particular portfolio, and with such margin being adjusted over time to reflect changes in that portfolio’s risk. In contrast, capital is shared collectively by all the entity’s activities and may thus be more easily depleted at a time of stress. It is also difficult to rapidly adjust capital in response to changing risk exposures. Capital requirements against each exposure are not designed to cover the loss on the default of the counterparty but rather the probability-weighted loss given such default. For these reasons, margin can be seen as offering enhanced protection against counterparty credit risk provided that it is effectively implemented. In order for margin to act as an effective risk mitigant, it must be (i) accessible when needed and (ii) provided in a form that can be liquidated rapidly and at a predictable price even in a time of financial stress.

Impact of margin requirements on liquidity

The potential benefits of margin requirements must be weighed against the liquidity impact that would result from derivatives counterparties’ need to provide liquid high-quality collateral to meet those requirements, including potential changes to market functioning as a result of an increased aggregate demand for such collateral. Financial institutions may need to obtain and deploy additional liquidity resources to meet margin requirements that exceed current practice. Moreover, the liquidity impact of margin requirements cannot be considered in isolation. Rather, it is important to recognise ongoing and parallel regulatory initiatives that will also have significant liquidity impacts; examples of such initiatives include the BCBS’s Liquidity Coverage Ratio (LCR), Net Stable Funding Ratio (NSFR) and global mandates for central clearing of standardised derivatives.

The BCBS and IOSCO conducted a QIS in order to gauge the impact of the margin proposals. In particular, the QIS assessed the amount of margin required on non-centrally cleared derivatives as well as the amount of available collateral that could be used to satisfy these requirements.

The results of the QIS, as well as comments that were received on the initial proposal and nearfinal framework, were carefully considered in arriving at the margin framework that is described in this document. The overall liquidity burden resulting from initial margin requirements, as well as the availability of eligible collateral to satisfy such requirements, has been carefully assessed in designing the margin framework. The use of permitted initial margin thresholds, which are discussed in detail in Element 2, the eligibility of a broad range of eligible collateral, which is discussed in detail in Element 4, the ability to re-hypothecate some initial margin collateral under strict conditions, which is discussed in Element 5, as well as the triggers that provide for a gradual phase-in of the requirements, which are discussed in detail in Element 8, have been included as key elements of the margin framework to directly address the liquidity demands associated with the requirements.

Margin requirements for non-centrally cleared derivatives A revised document was issued in March 2015. http://www.bis.org/bcbs/publ/d317.htm Key principles and requirements As described in more detail in Part B, this paper presents the BCBS’s and IOSCO’s final policy for margin requirements for non-centrally cleared derivatives, as articulated through key principles addressing eight

main elements:

1. Appropriate margining practices should be in place with respect to all derivatives transactions that are not cleared by CCPs.

2. All financial firms and systemically important non-financial entities (“covered entities”) that engage in noncentrally cleared derivatives must exchange initial and variation margin as appropriate to the counterparty risks posed by such transactions.

3. The methodologies for calculating initial and variation margin that serve as the baseline for margin collected from a counterparty should (i) be consistent across entities covered by the requirements and reflect the potential future exposure (initial margin) and current exposure (variation margin) associated with the portfolio of non-centrally cleared derivatives in question and (ii) ensure that all counterparty risk exposures are fully covered with a high degree of confidence.

4. To ensure that assets collected as collateral for initial and variation margin purposes can be liquidated in a reasonable amount of time to generate proceeds that could sufficiently protect collecting entities covered by the requirements from losses on non-centrally cleared derivatives in the event of a counterparty default, these assets should be highly liquid and should, after accounting for an appropriate haircut, be able to hold their value in a time of financial stress.

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