On February 23, 2017, the European Supervisory Authorities (ESAs) announced that neither the ESAs nor competent authorities (CAs) would provide over-the-counter (OTC) derivatives dealers subject to European Market Infrastructure Regulation (EMIR) with relief from the March 1, 2017 deadline to implement variation margin (VM) requirements. However, due to difficulties faced by small counterparties, and for consistency with the guidance issued by the U.S. banking agencies, the ESAs expect CAs to generally apply a risk-based approach in their day-to-day enforcement of VM requirements after March 1. CAs will require European dealers to take into account counterparty exposures and risk of default, document their steps taken toward full compliance and put in place alternative arrangements to contain risk, such as using existing Credit Support Annexes to exchange VM. The ESAs and CAs make clear that their risk-based approach does not entail a general forbearance, but that CAs will make a case-by-case assessment on the degree of a dealer’s compliance and progress. In any case, the ESAs and CAs expect EU derivatives dealers to finalize all necessary documentation before September 1, 2017 and that OTC transactions entered into on or after March 1, 2017 will remain subject to VM obligations for non-centrally cleared derivatives under the EMIR Regulatory Technical Standards.
The European regulators made their announcement on the same day as the Federal Reserve Board (FRB) and Office of the Comptroller of the Currency (OCC) issued guidance for U.S. swap dealer banks. On February 23, 2017, the FRB and OCC required U.S. swap dealer banks to be in full compliance with their VM requirements by March 1, 2017 for counterparties with significant exposures. But for swap counterparties without significant exposures, the FRB and OCC expect swap dealer banks to make good faith efforts to comply with the final rule by September 1, 2017. The FRB and OCC didn’t provide any definitions for significant exposures.
With guidance from the ESAs, CAs, FRB and OCC, as well as the announcement by the Japanese Financial Services Agency that it will delay VM requirements for Japanese dealers applicable to cross-border trades with counterparties in jurisdictions where VM requirements have not yet been implemented, only the Canadian regulators have yet to announce transitional measures or no-action relief. The U.S. Commodities Futures Trading Commission, plus regulators in Australia, Hong Kong and Singapore elected to provide no-action relief from VM requirements until September 1, 2017 for dealers under their jurisdiction. Let’s hope global regulators can use the next six months to agree on a consistent framework for VM requirements. Without such harmonization, global markets could further fragment and liquidity in key OTC derivative products, such as foreign exchange swaps and forwards, could be reduced. Risk-based approaches are good, but harmonized regulation is better.