Margin Rules and ISDA SIMM

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ISDA Chief Executive Officer Scott O'Malia offers informal comments on important OTC derivatives issues in derivatiViews, reflecting ISDA's long-held commitment to making the market safer and more efficient.

When it comes to the changes associated with the financial reform agenda, the work to implement the margining of non-cleared derivatives has to be one of the most significant and transformational. The phase-in of the non-cleared margin rules is roughly half way complete, with phases three, four and five coming into scope in 2018-2020. ISDA has helped the industry every step of the way, and it is important to highlight the work that lies ahead to integrate small banks and a broad range of buy-side members and commercial end users.

While much of the industry’s work is notable, including the rewriting and renegotiation of the existing variation and initial margin (IM) documentation, there is nothing as transformational as the work done to produce the ISDA Standard Initial Margin Model (SIMM). With more and more market participants coming into scope of the margin rules in the next few years, the ISDA SIMM will only increase in importance.

ISDA intends to retain the current methodology structure for the ISDA SIMM, so counterparties can be certain about relying on it in the months and years ahead. Use of a single, simple model like the SIMM addresses operational use, model approval, legal documentation, economical running costs, transparency and infrastructure development by users, regulators, vendors and middleware providers.

ISDA will continue to manage the SIMM’s development through the established governance framework to preserve its stability and reliability as more users take up the methodology and invest in associated infrastructure. This framework includes the SIMM Governance Forum, in which a broad constituency of SIMM users are able to discuss and recommend any appropriate changes to the ISDA SIMM consistent with the regulatory requirements.

As we begin the next phase of the margin rule implementation, which will cover smaller banks and financial users and commercial firms, we are taking steps to highlight the necessary preparations to ensure a smooth transition, as well as the impact this regulation will have on the buy side.

All will need to negotiate and sign agreements and handle related legal, risk management, custodial and operational issues associated with calculating, exchanging and monitoring IM. ISDA is working to finalize new credit support annex documentation that governs the exchange of eligible collateral, as required by regulation. We are enabling this process through the establishment of ISDA Create – IM, a new online negation platform where counterparties can negotiate and execute their documentation and store that material digitally. This step is important to future proof our documents, as well as offer a more efficient means of negotiating bilateral terms

We are also highlighting the impact these rules will have on end users. As we have noted elsewhere, ISDA is engaging constructively on aspects of the margin rules. One of these aspects is the current 10-day margin period of risk (MPOR). Another is the $8 billion threshold for phase-five firms that kicks in on September 1, 2020. We are mindful of the costs to market participants that come into scope in 2019 and 2020. When the rules were in development, there was an argument that MPOR must be high to incentivize clearing. Today, however, the market has exceeded the regulation and has cleared more than was mandated (and sooner). Now is the time to review this regulation to ensure it is appropriate.

We would note, however, that this does not involve altering the SIMM model structure. If regulatory MPOR assumptions change, ISDA and member committees believe that adjustments can be incorporated within the current SIMM analytical approach without a structural adjustment to the methodology.

ISDA’s work on non-cleared margin, and the ISDA SIMM in particular, ranks as one of ISDA’s singular achievements, with market participants coming together to form an effective solution to a common challenge. The model has gained regulatory and market acceptance in jurisdictions around the world. We continue to believe it will provide significant value to the global derivatives industry in its current form.

 

 

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