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.

Recent banking failures in the US and the acquisition of Credit Suisse by UBS are the latest in a series of stress events to have rocked financial markets, which includes the March 2020 dash for cash and the September 2022 UK liability driven investment (LDI) crisis. In the case of Silicon Valley Bank, the collapse appears to have been caused by risk management failures combined with a high interest rate environment. In other cases, such as the dash for cash and the LDI crisis, extreme market volatility caused a liquidity crunch and widespread selling of assets, disrupting the functioning of core markets like US Treasuries and gilts. It’s prompted regulators and market participants to think hard about how to mitigate the impact of future events, and ISDA is feeding into that work in several key areas.

While the post-mortem into the recent banking turmoil is in its very early stages, the regulatory review of the various market liquidity stress events is well progressed. Among other things, global policymakers are working on a comprehensive review of margining practices, which is currently focusing on six key areas, including transparency in centrally cleared markets, the liquidity readiness of market participants and the responsiveness of margin models to market stress. ISDA will engage with regulators and market participants as specific proposals are developed, but we’re taking action in two key areas now.

First, ISDA has been working with global regulators and market participants to review the performance of the ISDA Standard Initial Margin Model (ISDA SIMM). While initial margin requirements for non-cleared derivatives remained stable during recent crises thanks to the ISDA SIMM’s conservative design, some revisions to the methodology have been made. Specifically, we’ve lowered the threshold for when firms need to report and remediate portfolio coverage issues, and reduced the time frame in which remediation would be expected to take place. We’ve also introduced a quarterly assessment to determine whether recalibration of the model is needed outside of the annual recalibration cycle.

Second, we’re working with market participants to improve standardization and end-to-end automation in collateral management processes. While many firms have taken steps to automate certain processes and create efficiencies, a reliance on manual intervention continues to create bottlenecks. This is challenging in normal market conditions, but it quickly becomes unsustainable when markets are volatile and margin calls spike. We’ve used the Common Domain Model, a data standard for financial products, trades and lifecycle events, as the basis for collateral management use cases that will improve interoperability and streamline processes.

One policy option gaining traction among US regulators is increased clearing of cash Treasury securities and repos, with the US Securities and Exchange Commission (SEC) proposing rule amendments last September that would require Treasury clearing houses to direct their members to clear certain Treasury securities transactions.

Prior to the SEC’s proposal, ISDA carried out a survey on Treasury clearing to help inform the discussion. It showed that while clearing is seen as beneficial, there is little support for a clearing mandate, with concerns that it could lead to some firms reducing their activity or withdrawing from the market.

The SEC has also proposed that central counterparties offering clearing of US Treasuries should take steps to facilitate access to client clearing. While we wait for the SEC’s final rule, we are discussing the key criteria for an appropriate Treasury clearing model with our members to identify the best solution that is risk appropriate, protects customer margin and is capital efficient. We are considering all the options, including those currently available at Fixed Income Clearing Corporation, and we look forward to sharing our findings.

ISDA recently published a terrific tutorial on Treasury clearing and the automation of the collateral lifecycle on The Swap podcast with guest Brian Ruane from Bank of New York Mellon. Please do listen if you haven’t already.

We will continue to collaborate closely with regulators and market participants to make sure we’re prepared for future shocks and deliver improvements to key market practices where necessary. That’s why we’re looking forward to ISDA’s 37th Annual General Meeting in Chicago on May 9-11, where liquidity risk and collateral management efficiency will feature on our agenda.

It’s not too late to book your delegate ticket – I hope to see you in Chicago.

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