Global margin standards face further delays

Airport delays

New global standards on derivatives margin requirements appear to be facing significant delays, amid claims policy-makers have been unable to agree on the treatment of foreign exchange derivatives. Regulators are now planning to launch a second consultation, in part because of worries about the amount of collateral the current proposals would consume.

The standards are being drawn up by the Working Group on Margining Requirements (WGMR) - a joint working group of the Basel Committee on Banking Supervision and the International Organization of Securities Commissions - and would apply to over-the-counter derivatives that are not centrally cleared. Proposals were published in July last year, but were due to be finalised by the end of 2012.

That delay could now become something more serious and it is understood decisions on the next steps will be made in the coming weeks. Six industry sources who spoke to Risk and FX Week, a sister title, say they expect the WGMR to publish an interim document, which will be accompanied by a second comment period, as well as high-level details about the potential collateral impact of the proposals.

"We want to explore further how to treat forex derivatives. This has been one of the big debates in the working group. The US Treasury exempted forex from the Dodd-Frank Act requirements on central clearing, and there are differing views on whether that is the right way to go within the group. I think it's fair to say there has been disagreement and we don't currently have consensus," says one working group member.

The decision by the group to consult on a phased implementation schedule - which could be based on the level of a given institution's derivatives use - is understood to be informed by the outcome of a quantitative impact study (QIS), completed during the third quarter last year, which is said to have spooked policy-makers. Those results have not been published, but public estimates of the total margin required by the new rules vary from around $1 trillion to more than $10 trillion, depending on assumptions about the outcome of the WGMR's work.

Essentially, the FSB took a look at this work and said: ‘We're trying to recover from a crisis and you are planning to do what?

"Putting in place the margin requirements will be a big change for market participants - so we didn't want to take a big bang approach and worsen systemic risk by doing so. We are consulting on a phase-in period that could number a few years. There are significant liquidity pressures that institutions face in trying to meet collateral demands from a number of regulatory initiatives at once. And we needed to take that into account," says the working group member.

The group is also understood to be leaning toward proposing initial margin thresholds - below which margin would not need to be held - so as to lessen the impact.

The same fears were behind the watering down of Basel III's liquidity coverage ratio (LCR) earlier this month, which received the blessing of the Basel Committee's oversight body on January 6. At an accompanying press conference, the chair of that body - Bank of England governor Mervyn King - said: "It does not make sense to impose a requirement on banks that might damage the recovery." The LCR will now be phased in gradually.

A member of the FSB secretariat denies policy-makers are concerned about the impact of the rules, but says efforts are being made to ensure the resulting collateral demand makes sense. "It's important in this case that the thing is correctly calibrated, so it's a matter of making sure we've gone and checked the potential market impact - to the extent that is possible," he says. The issue will be debated at a meeting of the FSB plenary members on January 28.

Mark Carney, chairman of the FSB, discussed the topic with board members from the Global Financial Markets Association (GFMA) - an umbrella body for bank trade associations - last week.

"His tone was generally positive, in the sense they are looking for solutions rather than being Stalinist, if I may use that word. There was nothing very precise but I sense there was a willingness to find solutions. That is good news - it is more positive than they have been in the past," says one GFMA board member who attended the meeting.

The WGMR project was the result of pressure from the US government and regulators after both realised in 2011 that requiring US banks to collect initial and variation margin from local and international clients - a Dodd-Frank Act obligation - would kill US banks' overseas swaps activities, unless the rest of the world implemented similar rules. However, unlike other post-crisis reforms, the US rules do not spring from commitments made at the Group of 20 summit in Pittsburgh in 2009, so US regulators had to persuade other countries to get on board. As the implications of the US rules became clear, politicians pressed regulators to make the margining regime an international one.

While the ultimate liquidity impact of the rules is up in the air, some institutions have attempted to quantify the effect - but estimates vary wildly. The International Swaps and Derivatives Association published a paper last year assuming universal two-way posting of initial margin, which put the impact at $10.2 trillion if a standard margin calculator is used and $1.7 trillion if firms use internal models to calculate the margin.

The Bank of England also attempted to quantify the impact and estimated the total initial margin for cleared and non-cleared trades in the interest rate swap and credit default swap markets may reach between $200 billion and $800 billion if 80% of trades are subject to central clearing. In April last year, Risk also put a number on the overall impact by plugging global derivatives notionals into the standardised methodology initially proposed by US prudential regulators in 2011. The impact totalled $7.6 trillion.

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