Since 1 September 2016, new initial margin (IM) and variation margin (VM) requirements for non-centrally cleared over-the-counter (OTC) derivatives have been introduced and applied to jurisdictions globally.
These new margin rules originate from a global policy framework and timetable that was published by the Basel Committee on Banking Supervision and the International Organization of Securities Commissions (BCBS-IOSCO). They are a key part of the reform agenda put in place by the Group of Twenty (G20) as a response to the 2008 financial crisis and seek to reduce systemic risk in the non-centrally cleared OTC derivatives markets by ensuring appropriate collateral is available to offset losses caused by the default of a counterparty.
Important: Although the implementing jurisdictions' margin rules are based on the same global policy framework there will invariably be differences in each jurisdiction's requirements (see the Jurisdictions tab for more detail).
Variation margin in a nutshell
Variation margin reflects the daily change in market value of the financial instruments. Two counterparties must exchange VM to cover their current exposure based on the valuation of the financial instruments they are trading. These daily valuations (also known as 'mark-to-market') and the calculations follow transparent and well recognised industry methodologies.
The variation margin rules apply to trades between the largest market participants since 1 September 2016 (in the US, Canada and Japan). Since 1 March 2017, VM has applied to all other in-scope entities (subject to jurisdictions' implementation schedules). Please review the implementation schedule on the variation margin tab.
Initial margin in a nutshell
Initial margin (IM) is an amount of collateral that investors post to enable trading in financial instruments. Posting of IM aims to reduce the broker's exposure to the investor's credit risk. Whilst there is a common process for exchange traded and cleared derivatives, this is largely a new process for uncleared OTC derivatives.
The IM obligation started on 1 September 2016 in the United States, Canada and Japan for a few of the largest market participants only. The IM obligation for the vast majority of the in-scope entities will follow a phased-in implementation calendar between 1 September 2017 and 1 September 2022.
Financial firms and systemically important non-financial entities are generally in-scope and may need to exchange VM on a bilateral basis or to post IM to a third-party custodian. Each jurisdiction will set forth detailed definitions of in-scope, out-of-scope and exempt entities.
Margin will not be required to be exchanged with all counterparties. For example, many jurisdictions' rules will not require the exchange of margin with certain types of non-financial entities (e.g. non-financial counterparties below the EMIR clearing threshold in the European Union). It is also expected that certain entities (e.g. sovereigns, and central banks) will be exempt.
We will provide entities scope details for each jurisdiction when they will release such information (see the Jurisdictions tab for more detail).
New margin requirements will apply to non-centrally cleared OTC derivatives, which are derivative transactions that are not cleared through central clearing counterparties (CCPs). There are some product exemptions, as well as exemptions for certain inter-affiliate transactions; however, these exemptions may vary across jurisdiction.
We will provide transactions scope details for each jurisdiction as and when final rules are released.
Margin rules in the UK following Brexit
The European Union (Withdrawal) Act 2018 (EUWA) creates a new body of UK law, known as retained EU law, based on the EU law that applied in the UK on 31 December 2020. That retained law may have been amended under EUWA powers to ensure that it operates appropriately after Brexit. These amendments are not intended to make policy changes, other than to reflect the UK’s new position outside the EU, and to smooth the transition to this situation. As a result, from January 2021, there will be an EU version of EMIR containing margin rules and a UK version of EMIR containing margin rules, setting out substantially the same rights and obligations.
Whilst the substance of margin requirements obligations are largely unchanged as a result of onshoring in the UK, a range of practical impacts on margin provisions arise as a result of the UK’s exit from the EU.
In particular, there may be differences in the extent to which certain assets constitute “eligible collateral” for the purposes of the applicable margin rules.
The issues arising in relation to margin as a result of Brexit have been the subject of much discussion in the press, by regulators and by trade associations. HSBC Global Banking & Markets has been working to establish arrangements to ensure we continue to service our clients through Brexit and beyond. For specific questions about your relationship and transactions with HSBC please speak to your usual HSBC contact in the first instance.
Last updated: 21 December 2020