Ambiguity around financial counterparty categorizations due to the delay in the implementation of the update to the European Market Infrastructure Regulation (Emir), remains of concern for small financial counterparties (FCs) that fear they won’t qualify to avoid clearing obligations, according to Roger Cogan, head of European public policy at the International Swaps and Derivatives Association (Isda).
“The small financial counterparty category – the actual Refit rules are not cut and dried, and final as to how that category will work. It is still possible that some small financial counterparties – depending on what the final approach is – may be concerned that they won’t qualify. Others will be concerned as to the complexity of undertaking the calculation, particularly when derivatives activity has to be measured across a large number of funds,” he says.
“The small financial counterparty category, there is – we believe – a view that this would enter into force immediately when the Refit enters into force. The calculation of your position could be done over the previous 12 months, so let’s say it enters into force on the April 1, then small FCs could look back to April 1, 2018 and look at their derivative activity during that period.”
For category 3 firms – those financial counterparties who clear less than €8bn per month – the deadline to begin centrally clearing and trading over the counter (OTC) derivative contracts is in June 21.
However, an update to Emir – Refit - which was expected to be implemented towards the end of 2018, created a new category to exempt smaller financial counterparties from the clearing obligation. The update has yet to be finalized.
An EU source told bobsguide: “technical work is close to finalization, the file is in the process of preparation for the final adoption. We expect it to be finalized in the following weeks.”
According to a European Commission spokesperson disagreement surrounding pension scheme arrangement (PSA) derivatives clearing caused the delay in the publication of the amendments.
“What did surprise people was that the Emir Refit, a piece of legislation framed as a technical exercise, took quite a long time to reach an agreement,” says Isda’s Cogan.
Problems arise for small FCs if their derivative activities cross a range of different funds, according to Cogan.
“Where the challenges are, most of them are in the funds area. The counterparty would have to go across all of the funds that manage assets, they would have to chase all of those funds to get that information to them quickly. Valuations would presumably have to be done on the same day. A similar exercise was conducted among buyside firms to determine whether they were category 2 or category 3 clearing firms at end-2016, and it took many months,” he says.
“Obviously there is a bit of ambiguity as to whether the small FC could feel confident enough that it could rely on the forbearance until the calculation has been done, and whether its counterparty would be confident about that,” says Cogan.
On January 31, the European Securities and Markets Authority (Esma) released a statement expressing its position with regards to issues that arose because of the delay to the Emir Refit proposals.
“From a legal perspective, neither Esma nor competent authorities possess any formal power to dis-apply a directly applicable EU legal text, or even delay some of its obligations,” the statement said.
Firms are “just about comfortable” with Esma’s reaction to the delay, according to Cogan.
“The legal position is that Esma can’t grant forbearance. Esma as part of its mandate has a duty to promote convergence in implementation and enforcement of EU rules, so it can act as a forum for the NCAs to coordinate and can support an agreement among NCAs not to enforce on this point,” says Cogan.
“That decision is legally in the hands of each NCA. Some NCAs many have more formal scope to temporarily lift the requirement than others. Esma has done as much as it can do and I think by and large firms are just about comfortable,” he says.
The deadline for backloading, which required reporting entities to report derivatives that were outstanding on or after August 16, 2012 and terminated before the Emir reporting start date on February 12, 2014, was scheduled to take place on 12 February 2019.
Difficulties to comply with the backloading requirement were brought to the attention of Esma and NCAs. In August 2015 Esma said it was “concerned about the particularly high number of reconciliation failures concerning the derivatives subject to backloading and therefore, the limited usefulness of such data.”
Therefore, Esma recommended that the backloading requirement should be waived under the Emir update. However, delays to the implementation of the Emir Refit means that the backloading deadline is still valid.
In the statement Esma said it expected “competent authorities to apply their risk-based supervisory powers in their day-to-day enforcement of Emir in a proportionate manner. This may include not prioritising counterparties’ reporting of backloaded transactions in their day-to-day supervision and enforcement of Emir.”