CFTC: Security-Based Swaps May Be Included in Calculation of Initial Margin for Regulatory Purposes | Practical Law

CFTC: Security-Based Swaps May Be Included in Calculation of Initial Margin for Regulatory Purposes | Practical Law

The CFTC issued a response to a request from ISDA that allows parties to include security-based swaps (SBS) within the same "product set" as swaps for the purpose of calculating initial margin for uncleared swaps.

CFTC: Security-Based Swaps May Be Included in Calculation of Initial Margin for Regulatory Purposes

by Practical Law Finance
Published on 31 Aug 2016 • USA (National/Federal)
The CFTC issued a response to a request from ISDA that allows parties to include security-based swaps (SBS) within the same "product set" as swaps for the purpose of calculating initial margin for uncleared swaps.
On August 23, 2016, the CFTC issued a response to a request from ISDA which will allow covered swap entities (CSEs), which are subject to the CFTC margin rules, to include security-based swaps (SBS) within the same "product set" as swaps for the purpose of calculating initial margin (IM) under CFTC margin rules for uncleared swaps (see Legal Update, CFTC Adopts Final Rules on Uncleared Swaps Margin).
Based on ISDA's position that including SBS in such margin calculations is both appropriate for risk-management purposes and consistent with the corollary margin rules adopted by US prudential bank regulators (prudential margin rules) (see Practice Note, The Dodd-Frank Act: Margin Posting and Collection Rules for Uncleared Swaps: Final Prudential Margin Rules), the CFTC has granted no-action relief to CSEs that collect and post margin on a combined (portfolio) basis for swaps and SBS.
This allows parties to continue netting positions under transactions for purposes of determining collateral calls and credit support amounts due between the parties, regardless of whether they are non-security-based swaps (swaps) or SBS.
The prudential margin rules cover both the uncleared swaps and SBS of bank swap dealers, while the CFTC margin rules cover the uncleared swaps of swap dealers not subject to the prudential margin rules (covered swap entities or "CSEs") (see Practice Note, The Dodd-Frank Act: Margin Posting and Collection Rules for Uncleared Swaps). The SEC margin rules for uncleared swaps cover the SBS of security-based swap dealers not subject to the prudential margin rules, though those rules remain in the proposal stage (see Practice Note, The Dodd-Frank Act: Derivatives Margin Collateral Rules: Margin Collateral Collection Requirements for Uncleared SBS Proposed by SEC).
Because the prudential rules cover both swaps and SBS, this netting or "product set" issue does not present itself for CSEs subject to the prudential rules. However, the issue arises because the CFTC uncleared margin rules cover only swaps, and exclude SBS.
The relief is subject to the following conditions:
  • The swaps and SBS must be subject to the same eligible master netting agreement and netting portfolio thereunder.
  • The applicable swaps and SBS must be in the same broad "risk category." No further detail is provided on this.
  • All SBS in a netting set must be continuously and consistently included in margin calculations and cannot be cherry-picked.
  • The SBS will be treated like swaps for all applicable provisions of CFTC margin requirements for uncleared swaps found in CFTC Regulations 23.150 - 161.
  • Any CSE acting pursuant to this relief will provide either the CFTC or National Futures Association (NFA) with any information requested.
  • If the CSE has obtained or is obtaining approval from the NFA to use an approved IM model (such as the ISDA Standard Initial Margin Model (SIMM™)), the CSE can include SBS in the model, assuming all other conditions are met. The CSE must notify the NFA that it intends to post and collect margin on a portfolio basis for swaps and SBS, and the CSE must submit any documentation required by the NFA to extend the approval to SBS. For more information on ISDA SIMM, see Practice Note, The New ISDA® Credit Support Annexes and Global Margin Compliance for Uncleared Swaps: The ISDA Standard Initial Margin Model (SIMM™).
  • If the CSE does not obtain approval to include SBS in an approved IM model, the CSE may still post and collect margin on a portfolio basis for swaps and SBS if the CSE uses the standardized IM schedule in CFTC Regulation 23.154(c) to calculate IM for all swaps and SBS.
The relief granted is limited to enforcement actions under the CEA and will not affect the applicability or requirements under the prudential margin rules, SEC rules for SBS, or FINRA rules.
"ISDA" and "ISDA SIMM" are registered trademarks of the International Swaps and Derivatives Association, Inc. (ISDA). ISDA is not a sponsor of Practical Law and had no part in the development of this resource.