ISDA Webinar Addresses Development of a “Standard Initial Margin Model”

and Posted on

 

In February 2015, the International Swaps and Derivatives Association, Inc. (“ISDA”) released a webinar on various issues related to the margin requirements for uncleared swaps.[1]  Specifically, the webinar: (i) covered the organizational structure of ISDA’s Working Group on Margin Requirements Implementation Initiative and each of the Initiative’s “workstreams” responsible for tasks associated with the margin rules (i.e., the Portfolio Integrity Workstream, the Margin & Collateral Workstream, the Risk Classification & Methodology Workstream, the Data Sources Workstream, the Dispute Resolution Workstream, and the Legal & Documentation Workstream); (ii) provided an update on ISDA’s efforts to develop, and obtain regulatory approval for, its “standard initial margin model” (“SIMM”), which is a standardized method for calculating  initial margin on uncleared swaps; and (iii) discussed significant legal and operational issues related to the implementation of the recently re-proposed uncleared swap margin regulations.[2]

ISDA is currently developing a single SIMM intended for broad use by market participants under their credit support documentation.  The margin regulations that the prudential regulators and the CFTC re-proposed in 2014 (along with similar proposals in Europe and Japan) generally allow market participants to calculate initial margin amounts using either: (i) standard look-up tables set forth in the relevant regulations; or (ii) an “internal model” approved by regulators.  One of the reasons the SIMM was created was to reduce initial margin requirements (for example, unlike the standard look-up tables, the SIMM is intended to provide relief for off-setting positions or risks).  Additionally, the SIMM should provide increased transparency for market participants, establishing a “recipe” for how calculations and inputs should be structured and implemented, and allowing market participants to resolve disputes more easily.  Finally, the SIMM should allow market participants to run pro forma calculations for purposes of managing and forecasting liquidity and understanding the impact of contemplated trades, novations, and similar events on funding.[3]

The webinar also provided an overview of the legal and operational challenges posed by the re-proposed uncleared swap margin rules and ISDA’s efforts to facilitate compliance.  The following points, among others, were addressed:

  • Credit Support Annexes and other collateral documentation will need to be revised or replaced. ISDA plans to publish a new suite of boilerplate credit support documents under New York law, English law, and Japanese law. Further, custodial agreements (i.e., tri-party agreements) will need to be established or modified to provide for the segregation of initial margin consistent with the SIMM. Additionally, new or updated netting and collateral opinions may be necessary for market participants in certain jurisdictions. ISDA will commission such opinions once the final rules are in place.
  • Each counterparty relationship will need to be analyzed to determine which, if any, margin regulations apply. For that analysis, a market participant will likely need to know, among other things, its and its counterparty’s status and average aggregate notional amount under the relevant margin regulations. ISDA is in the process of developing a self-disclosure form for this purpose.
  • Market participants will need to determine the cross-border applicability of the margin regulations. Regulators have yet to specify how the margin regulations will apply in the cross-border context.
  • The re-proposed margin rules in all three relevant jurisdictions have an implementation date of December 1, 2015, at which time: (i) all covered firms would be required to exchange variation margin; and (ii) a four-year phase-in for posting initial margin would commence. Many market participants have expressed concern about the short timeframe before the implementation date. Although CFTC Chairman Timothy Massad recently expressed a potential willingness to delay the implementation date in order to facilitate compliance, the CFTC to date has made no definitive announcement of any such delay.[4]

[1] ISDA WGMR Implementation Overview, February 2015 (available at: https://www.isda.org/a/niDDE/isda-wgmr-webcast-final-slides.pdf).

[2] A recent posting in Derivatives in Review (available here) addressed the re-proposed margin rules.

[3] In more technical terms, the SIMM framework takes a “sensitivity based approach” that divides uncleared swaps into four asset classes (i.e., interest rate and foreign exchange, credit, equities, and commodities), aggregates risk separately into each asset class, and provides pre-defined inputs such as sensitivities on certain risk factors.

[4] See, e.g., Jeremy Grant, “US Considers Delay to OTC Swap Rules,” Financial Times, January 23, 2015 (available at: https://www.ft.com/content/93f21702-a2e6-11e4-ac1c-00144feab7de).