IM phases five and six collide as buy side delays readiness

More than 1,000 segregated accounts for uncleared margin may still need to be opened post-deadline

Timing clash

The decision to stall the opening of thousands of segregated accounts ahead of the fifth phase of initial margin (IM) requirements may come back to bite buy-side firms, as implementation threatens to bump up against phase six on September 1. That’s when firms with more than €50 billion ($58.7 billion) in average aggregate notional amount – or its equivalent in other currencies – will come under the scope of the next phase of initial margining.

Many buy-side firms have decided to delay putting in place all documentation needed to open accounts with all counterparties from day one. But with only four custodians capable of managing segregated IM accounts, some commentators are concerned about how smoothly things will run when phase-five firms do decide to get things in order. Shaun Murray, a UK-based consultant, describes it as “a ticking time bomb”.

“For phase-five firms that haven’t done their threshold analysis in a detailed enough way, they may find that they are not top of the list when they go to their dealers, who are immersed in phase six and cannot repaper quickly enough,” he says.

According to industry estimates, between 250 and 300 additional firms are expected to come into scope for initial margin in September.

But four sources involved in helping set up segregated IM accounts say that after September the number of phase-five account openings still needed across the industry may be well over 1,000.

One member of the legal team at a Chinese securities firm that will come into scope in September says that getting ready for margining has been so overwhelming that their firm – and many like it – have been left with no choice but to delay: “We are actively doing initial margin documentation for those counterparties we need to, but others may take more time. There are so many moving parts that we need to balance the different stakeholders in the best way we can.”

Acadia, a technology vendor, says that more than 70% of agreements it has helped set up for phase-five initial margining are done on a “threshold-monitoring” basis – meaning that firms will only start putting documentation in place and opening accounts once the bilateral notional being traded with counterparties starts to approach the threshold amount.

For phase-five firms that haven’t done their threshold analysis in a detailed enough way, they may find that they are not top of the list when they go to their dealers

Shaun Murray, consultant

While firms will only have to start exchanging initial margin to counterparties with which they trade more than €50 million notional worth of derivatives or equivalent, Murray also notes that many firms he has dealt with appear to be using a “soft threshold” of between €25 million and €30 million. Once firms get above this level, they plan to start opening accounts and getting documents signed.

Acadia says it has helped put roughly 900 IM credit support annexes in place – with a further 2,500 monitoring agreements signed – but even at this late stage, agreements are still being finalised, and things could yet change.

Custody battle

Custodians are worried, too.

“Unlike in previous phases of initial margin, we are not expecting to see a lull before the next phase hits,” says Ted Leveroni, head of margin services at BNY Mellon. “Post-September, we expect to see continued work with phase-five firms who are dealing with their smaller trading relationships and getting them up and running, whilst we’re also starting on phase six.”

O’Delle Burke, head of collateral services and product innovation for Asia at JP Morgan, says that although he expects the process to run smoothly, it very much depends on how rigorously firms have done their due diligence.

O’Delle Burke_JP Morgan
O’Delle Burke, JP Morgan

“From what I’ve seen so far, it seems like this can be managed. But [it] all depends on the tools and the processes that you have in place. If this breaks down, that is when dangers can materialise,” Burke tells

The head of investment solutions at one buy-side firm, which had expected to be in phase five, but will now not be caught by the IM rules until phase six, says that this danger could creep up unexpectedly.

“The market could move against the firm or there could be a sudden surge in demand for hedging that the firm didn’t foresee,” he says. “No-one wants to take that risk, but will trading counterparties be monitoring things as closely as they should when they’re also overwhelmed by all of this?”

The in-house lawyer at the Chinese securities firm says it has guarded against this danger by making sure all stakeholders are ready to take action if trading with one particular counterparty should dramatically increase.

“Everyone needs to be on the same page in case there is a sudden influx of trading that pushes the volume being done with a particular counterparty over the threshold quicker than expected,” says the lawyer.

The industry sounds a warning signal over initial margin every year, but BNY Mellon’s Leveroni says that things may be worse this time: “The danger of things slipping through the cracks is greater in phase five than it was in phase four or phase three, simply because of the volumes involved: the sheer number of firms that need to be onboarded, and then the accounts that have to be opened.”

He believes phase-five firms may be underestimating the time and effort needed for opening accounts: “It’s not simply a question of snapping your fingers and then you have an account. To open an account and have a client ready, you need legal documentation, you need the operational documentation, and then you need the technical side.”

“When you have a 1% error rate, for example, it might not seem like such a big deal,” adds Leveroni. “But when you’re opening 2,000 accounts and you have a 1% error rate, then you have a potentially large impact.”

Correction, August 31, 2021: This article was amended to correct the name of Acadia.

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