The Basel Committee on Banking Supervision and IOSCO have released “Margin requirements for non-centrally cleared derivatives,” the final rules on this topic. We cover the highlights including some important new information on rehypothecation.
The majority of this document is similar to the last consultation round that we covered in February 2013 (“BCBS and IOSCO clarify non-cleared derivatives margin rules and allow broader collateral eligibility – the cake is almost baked“).
Last February, and BCBS and IOSCO were negative on rehypothecation, noting that “Cash and non-cash collateral collected as initial margin should not be re-hypothecated, re-pledged or re-used.” This time they have backed off and will allow “one-time” rehypothecation of initial margin collateral. Variation margin can be rehypothecated with no apparent restrictions. Besides industry comments, the BCBS and IOSCO were moved by a quantitative impact study (QIS) that assessed the impacts of not allowing rehypothecation along with other variables such as the LCR and requirements for central clearing. Disallowing rehypothecation entirely would have overly damaged liquidity and further exacerbated capital requirements. Allowing rehypothecation makes better sense.
The rules have some interesting things to say about collateral segregation and bankruptcy risk. In effect, participants will be allowed to swap collateral on a gross, not net, basis, and that account segregation is now mandatory. Custodians must be very pleased about this. That said, banks can still rehypothecate the segregated collateral, which means that they will want to hold collateral in house. Clients can require their collateral to be held elsewhere but that may increase their trading costs.
There are some twists and turns here that collateral managers will need to read closely. One of the bigger ones in terms of complexity is that counterparties to a newly rehypothecated transaction will need to agree to not further rehypothecate the securities, and of course all of this has to be monitored. This looks like more employment for compliance teams, and the legal paperwork could get expensive too.
Other changes of note include:
– FX forwards and swaps are exempted for IM but participants need to exchange VM.
– Physical FX trades associated with cross-currency swaps are exempted from IM but not VM.
– The new rules will be phased in started in December 2015.
Some areas that have stayed the same are:
– A focus on CCPs and a trend towards discouraging non-cleared transactions in general. We compare this to the new FSB Shadow Banking doc on securities lending and repo that also wants regulators to explore CCPs.
– Corporate bond and equities have stayed on the list as eligible collateral for non-cleared OTC derivatives with “stringent” haircuts.
– Both the February 2013 document and the new release discuss a EUR50 million threshold under which collateral does not need to be swapped. There were some questions about this in February that are now resolved.
As a mildly amusing footnote, check out the standardized collateral haircut schedule in Annex 2, which is different than the FSB’s standardized haircut schedule (floor) for repo transactions (see page 27). Aren’t these the same people on these working groups?
The full BCBS/IOSCO document is available here.
For those interested in a summary of the technical details, theOTCSpace has a good write up here.