ESAs reinforce that OTC derivative fallbacks should not create legacy contract obligations

The European Supervisory Authorities released a statement on the introduction of fallbacks in OTC derivative contracts and the requirement to exchange collateral. ESAs are aware of the possible interplay between the introduction of fall-backs to increase the robustness of contracts referencing certain benchmarks and the requirement under EMIR to exchange collateral for certain OTC derivative contracts.

Fallbacks introduced in OTC derivative contracts, reflect written plans which set out the actions that counterparties would take in the event that the benchmark used in these contracts materially changes or ceases to be provided. The ESAs are of the view that amendments made to outstanding uncleared OTC derivative contracts (legacy contracts) for the sole purpose of introducing such fallbacks should not create new obligations on these legacy contracts.

In particular, margining requirements should not apply to these legacy contracts where they were not subject to those requirements before the introduction of the fall-backs. The ESAs believe it useful to ensure legal certainty on this, in case or to the extent this is not already provided in some jurisdictions.

While, neither the ESAs nor competent authorities possess any formal power to disapply directly applicable EU legal text, the ESAs are in contact with the co-legislators to see how a legislative change could be achieved to ensure this legal certainty.

Such an amendment would further ensure international convergence on the implementation of the bilateral margin requirements which reflect the global framework discussed and agreed with the BCBS and IOSCO. Indeed, the BCBS and IOSCO also clarified in March 2019 that these types of amendments, made for the purpose of the benchmark reforms, were not meant to subject these amended contracts to the margining requirements.

Read the full statement

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