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Article: EMIR - The Clearing Obligation - All Systems GO!!

08 December 2015 | Byron Baldwin

The start of mandatory OTC Clearing in Europe has now been confirmed [1] to begin for Category 1 participants on 21 June 2016. Who qualifies as Category 1? Entities that are Clearing Members of at least one EMIR QCCP that is authorised to clear the class of derivatives which are subject to the regulatory technical standards (RTS) under the clearing obligation of EMIR are considered to be classified as to be Category 1. Mention should also be made to Frontloading. Frontloading is the retroactive period before the start date for mandatory clearing that requires category participants to clear OTC IRS - for example Category 1 participants it will mean retroactively clearing OTC IRS from 21 February 2016, for Category 2 participants from 21 May 2016. Frontloading under EMIR only applies to Category 1 and Category 2 participants.

EMIR OTC Clearing Obligation - Important Dates

RTS comes into force: 20 days after being posted in the EU Official Journal.

  • 21 February 2016 start of Frontloading for Category 1 participants;
  • 21 May 2016 start of Frontloading for Category 2 participants;
  • 21 June 2016 start of OTC Clearing for Category 1 participants;
  • 21 December 2016 start of OTC Clearing for Category 2 participants;
  • 21 June 2017 start of OTC Clearing for Category 3 participants; and
  • 21 December 2018 start of OTC Clearing for Category 4 participants.

 Eurex Clearing meets the Buy Side and Sell Side' EMIR mandatory OTC clearing requirements in terms of generating significant margin, capital, default fund and collateral efficiencies:

  • Cross Margining of listed derivative products and OTC IRS using Eurex Clearing's innovative PRISMA portfolio margining system [2]. From an operational point of view, for the cross margining of a portfolio of OTC IRS and ETD, there is no physical movement of Futures to OTC IRS, the Prisma Margin Optimiser automatically calculates the minimum margin (see diagram above) for a portfolio of OTC IRS and IRS, if there are no offsets between ETD and OTC IRS within the portfolio, margin will default to ETD being margined on a 2 day risk horizon and OTC IRS being margined on a 5 day risk horizon.    Cross Margining of Listed Derivative Products and OTC IRS generates significant Margin and Default Fund savings with cross margin savings up to 70% - with the added benefit for the Sell Side of reduced capital regulatory requirements through the netting of exposures:

Ten Year Euro Cleared IRS versus Eurex Bund Futures Asset Swap

  • Collateral Efficiency – Eurex Clearing has the widest range of Eligible Collateral – over 25000 ISINS, more than any other CCP globally - to meet Initial Margin requirements [3]. Also, the Re Use of GC Pooling facility[4] allows for a cash provider at Eurex Repo to use the GC Pooling collateral to meet initial margin requirements for OTC IRS (and listed products)  at Eurex Clearing, significantly increasing the efficiency of collateral.
  • Advanced Netting – as well as Basic Netting, EurexOTC Clear also offers Fee Netting (netting with future Fees) and Coupon Blending (netting with different Fixed Rates) significantly reducing IRS notional exposures and capital regulatory requirements. All Netting at EurexOTC Clear is on an unlinked basis.

Coupon Blending

  • Inflation Swap Clearing – since 3 August EurexOTC Clear has offered the central clearing of Zero Coupon Inflation Swaps (ZCIS) – Euro Zone Harmonised Index of Consumer Prices excluding Tobacco (HICPxT), French Consumer Price Index excluding Tobacco (FRCPIx) and UK Retail Price Index (UK RPI) giving both the Buy Side and Sell Side alike significant portfolio and cross margining savings – no other CCP offers the combined central clearing and portfolio margining of OTC IRS, ZCIS and Listed Derivative Products. It does not make sense for a Buy Side or Sell Side firm to bifurcate its book by clearing OTC IRS, ZCIS and Listed Derivative Products across separate CCPs – with the added benefit to the Sell Side of lower capital regulatory requirements through the netting of exposures.

Inflation Swap Clearing Cross Margining Examples

  •  MarkitWire Trade Division – EurexOTC Clear offers MarkitWire Trade Division which separates the two cleared IRS trade records in MarkitWire once it has been novated to Eurex Clearing. After novation there now will be two Eurex Clearing trade IDs as well as two MarkitWire trade IDs. Hence, the post novation trade records of MarkitWire and Eurex Clearing will be aligned and the srcSysTrade IDs will match the MarkitWire trade IDs. In addition, a new ‘presrcSys Trade ID’ will copy the MarkiWire of the previously terminated trade. As a result, trades cleared with Eurex Clearing will always have a unique SrcSys Trade ID that identifies a corresponding trade record in MarkitWire.        
  • Default Fund Efficiency -Eurex Clearing has an integrated Default Fund across asset classes segmented by Liquidation Groups - the Fixed Income Liquidation Group, for example, encompasses Fixed Income and Money Market Futures and Options products, OTC IRS and Zero Coupon Inflation Swaps. The integrated Default Fund structure benefits from reduced risks as a results of portfolio diversification effects resulting in a Default Fund contribution of 7% of Initial Margin requirements at Eurex Clearing compared to that of 10% of Initial Margin requirements for a silo'd CCP Default Fund structure - giving the Sell Side significant funding and capital cost savings:   

Going forward in the new EMIR world of mandated OTC Clearing and the capital regulatory challenges of  Basel III, Leverage Ratio and RWA, margin and capital savings are going to be paramount. EurexOTC Clear meets the needs of the Sell Side and Buy Side by delivering significant margin, collateral, default fund and capital regulatory efficiencies.

Footnotes & Links:

[1] See link to EU Official Journal: http://eur-lex.europa.eu/legal-content/EN/TXT/?uri=uriserv:OJ.L_.2015.314.01.0013.01.ENG&toc=OJ:L:2015:314:TOC  and ESMA Press Release: http://www.esma.europa.eu/news/Press-release-European-swap-clearing-start-June-2016?t=579&o=page%2FOTC-derivatives-and-clearing-obligation

[2] See below for an outline of Cross Margining at Eurex Clearing: http://www.eurexclearing.com/clearing-en/about-us/news/Cross-Margining-at-Eurex-Clearing/1029100

[3] Link for Eurex Clearing Eligible Collateral: http://www.eurexclearing.com/clearing-en/risk-management/risk-parameters go to 'Collateral Acceptance & Haircuts' and 'Admissable Securities'.

[4] Link to Re Use GC Pooling Collateral Facility: http://www.eurexclearing.com/blob/672308/48a6e64eea8b5b972ca730be737a2d84/data/reuse_gc_pooling_collateral_for_ec_margining.pdf