CSDR and EMIR clash on derivatives, warn trade bodies
07 July 2020 London
Image: oatawa/Shutterstock.com
The Futures Industry Association (FIA) and the International Swaps and Derivatives Association (ISDA) are calling on EU rule-makers to exempt derivatives from the settlement discipline regime of the Central Securities Depositories Regulation (CSDR) as they are already covered in existing rules frameworks.
In a joint position paper, the trade bodies warn that the settlement discipline regime is currently understood to capture derivatives despite not being written with them in mind, although it鈥檚 not entirely clear, they suggest.
The application of buy-ins under CSDR on derivatives would bring 鈥渦nintended adverse consequences鈥� and 鈥渦ndermine the risk-mitigating purpose鈥� of other existing regulations governing derivates, such as the European Market Infrastructure Regulation (EMIR), the paper argues.
It further states that CSDR will 鈥渄istort the economic agreement of the parties in relation to impacted transactions鈥� once it comes into effect in February 2021.
Although the trade bodies note that the terms of CSDR鈥檚 settlement discipline regime have been in place for some time, they argue that 鈥渁 number of new practical considerations and concerns have come to light in recent months as market participants have turned to consider the detailed practical implications of the regime for derivatives transactions鈥�.
Regarding CSDR鈥檚 overlap with EMIR, the paper notes that derivatives may fall under the scope of the settlement discipline regime when transferring margin or when physically settling a derivative contract where the underlying is an in-scope financial instrument.
However, the trade bodies explain, mandating a buy-in (or imposing cash penalties) where a transfer of such financial instruments as margin fails to settle 鈥渨ould likely increase the receiving party's exposure to the posting/failing counterparty鈥�.
鈥淭his would have exactly the opposite effect to the risk-mitigating purpose of regulatory margin requirements. The timing of daily margining requirements would also render a buy-in ineffective in this situation,鈥� they warn.
The paper states that such situations are 鈥渁lready dealt with effectively in industry-standard documentation鈥� for both cleared and non-cleared derivatives.
As such, the trade bodies are requesting that cash penalties and mandatory buy-in requirements should not apply to derivatives.
The associations also use the paper to highlight the concerns around the practical impact of the regime on markets, particularly in times of market stress and reduced liquidity.
ISDA and FIA 鈥渆cho these concerns and support recent industry requests made
for urgent action to mitigate some of the more problematic aspects of the mandatory buy-in
regime 鈥� including to address the derivatives-specific issues raised in this letter鈥�.
They further call on EU regulators to clarify their position on whether derivatives fall within the jurisdiction of CSDR or not quickly or alternatively consider an additional delay to allow more time for analysis into the various red flags raised by the industry so far.
In a joint position paper, the trade bodies warn that the settlement discipline regime is currently understood to capture derivatives despite not being written with them in mind, although it鈥檚 not entirely clear, they suggest.
The application of buy-ins under CSDR on derivatives would bring 鈥渦nintended adverse consequences鈥� and 鈥渦ndermine the risk-mitigating purpose鈥� of other existing regulations governing derivates, such as the European Market Infrastructure Regulation (EMIR), the paper argues.
It further states that CSDR will 鈥渄istort the economic agreement of the parties in relation to impacted transactions鈥� once it comes into effect in February 2021.
Although the trade bodies note that the terms of CSDR鈥檚 settlement discipline regime have been in place for some time, they argue that 鈥渁 number of new practical considerations and concerns have come to light in recent months as market participants have turned to consider the detailed practical implications of the regime for derivatives transactions鈥�.
Regarding CSDR鈥檚 overlap with EMIR, the paper notes that derivatives may fall under the scope of the settlement discipline regime when transferring margin or when physically settling a derivative contract where the underlying is an in-scope financial instrument.
However, the trade bodies explain, mandating a buy-in (or imposing cash penalties) where a transfer of such financial instruments as margin fails to settle 鈥渨ould likely increase the receiving party's exposure to the posting/failing counterparty鈥�.
鈥淭his would have exactly the opposite effect to the risk-mitigating purpose of regulatory margin requirements. The timing of daily margining requirements would also render a buy-in ineffective in this situation,鈥� they warn.
The paper states that such situations are 鈥渁lready dealt with effectively in industry-standard documentation鈥� for both cleared and non-cleared derivatives.
As such, the trade bodies are requesting that cash penalties and mandatory buy-in requirements should not apply to derivatives.
The associations also use the paper to highlight the concerns around the practical impact of the regime on markets, particularly in times of market stress and reduced liquidity.
ISDA and FIA 鈥渆cho these concerns and support recent industry requests made
for urgent action to mitigate some of the more problematic aspects of the mandatory buy-in
regime 鈥� including to address the derivatives-specific issues raised in this letter鈥�.
They further call on EU regulators to clarify their position on whether derivatives fall within the jurisdiction of CSDR or not quickly or alternatively consider an additional delay to allow more time for analysis into the various red flags raised by the industry so far.
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