The third annual BNY Mellon/Insurance Risk collateral management survey reveals how insurers are grappling with the challenge of central clearing for over-the-counter derivatives.
The new regime is brought into effect by parts of the Dodd-Frank legislation in the US and by the European Market Infrastructure Regulation (Emir) in Europe, and promises a fundamental readjustment of practice in the area of collateral management. The new regime means that firms will, for most trades, clear through a central counterparty and will have to post both initial and variation margin, with the former being cash or sovereign bonds and the latter cash only.
Companies in the US are already clearing OTC contracts centrally and have been doing so since mid-2013. For European firms, central clearing is expected to become effective in the summer of 2016. Until now, most insurers have been unfamiliar with posting initial margin. Nor do they often post cash-only as variation margin.
Key findings in the survey, which was carried out between July and September this year were:
- a growing number of insurers are posting initial and variation margin on OTC derivatives positions as US Dodd-Frank rules take effect and firms elsewhere follow the trend towards more frequent posting of higher quality collateral;
- the number of firms claiming to understand the implications of the move to central clearing has fallen with Europeans trailing behind their North American counterparts;
- confidence remains low among insurers that they hold enough assets of sufficient quality to meet collateral obligations; and
- more firms this year see opportunities to generate income arising from the OTC derivatives reforms, but a still larger group take the opposite view.