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ISDA Still Swinging in the Fight Over Initial Margin for Non-Centrally Cleared Derivatives

On 12 April 2013, the International Swaps and Derivatives Association (ISDA) published a Letter on Margin Requirements for Non-Centrally Cleared Derivatives written jointly with the Institute of International Finance (IIF), the Association of Financial Markets in Europe (AFME) and the Securities Industry and Financial Markets Association (SIFMA).

The letter is addressed to the Basel Committee on Banking Supervision (BCBS), the International Organization of Securities Commissions (IOSCO), the Financial Stability Board (FSB) and the Committee on Payment and Settlement Systems (CPSS).  It was drafted in response to the BCBS and IOSCO second consultative document dated 15 February 2013 on “Margin requirements for non-centrally cleared derivatives” (the “BCBS/IOSCO Second Consultation”).

The authors express their “grave concerns” about the initial margin (IM) requirements contained within the BCBS/IOSCO Second Consultation.  They believe that the:

  • outright quantum of margin required even in “normal” market conditions would be very significant and pro-cyclical in nature;
  • IM requirements could result in the withdrawal of market participants from the non-cleared OTC derivatives market, resulting in less effective (or non-existent) hedging of risk; and
  • IM requirements should not be used as a tool to meet the political objectives of policymakers to reduce risk by encouraging more clearing, particularly in light of the fact that a sub-set of transactions will remain non-clearable in nature.

As currently drafted, the authors believe that the IM requirements would not reduce, and may actually increase, systemic risk.  They ask that the proposals be withdrawn or suspended until their consequences have been fully analysed, and suggest the following action points:

  • the performance of another Quantitative Impact Study (QIS) into the level of margin required under the proposals (which they believe has been seriously underestimated in the original QIS performed as part of the BSBS/IOSCO Second Consultation);
  • an analysis of the benefits of initial margin; and
  • the quantification of the economic value of non-cleared OTC derivatives prior to the impact of any proposed IM requirements.

The basic argument put forward by ISDA et al for some time now is that the cost of the IM proposals needs to be properly understood and then balanced against the benefits (the existence of which is not disputed).  In this respect, you have to give the authors full marks for their continued effort and stamina.  However, one does sense that they are fighting a losing battle on this one.

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