Swap Dealers at Odds with Fed on Variation Margin Relief

An article on Risk.net reports that swap dealers and U.S. prudential regulators are increasingly at odds, over differing interpretations of the non-cleared margin relief granted on February 23rd.

The difference of opinion stems from guidance from the Fed that allowed banks to continue trading with non-compliant counterparties that are deemed not to have 'significant exposures', though the Fed declined to outline what amounted to 'significant exposures' or how a dealer should measure it.

The lack of explicit guidance, has led to at least six large banks to assess 'significant exposures' on a net basis, which essentially looks at the risk uncollateralized after accounting for margin under existing CSAs.

"I have not heard regulators say we can't look at net exposure to a counterparty, or that we can't consider historical margin when calculating significant exposure," said a senior risk manager at a large U.S. bank.

So far, the Fed has declined to comment on this interpretation of the relief it granted in February, but Risk.net reports that banks were expected to consider their entire swap exposure to a counterparty when applying the guidance and the expectation was that this would be calculated on a gross, not net basis.

"We think significant exposure-which is the language [the Fed] used refers to our exposure after collateral risk is taken into account, because that is our net exposure," a senior risk manager at a European bank was quoted as saying, with another adding that "nobody has told me, I shouldn't be taking account of that," in referring to discounting collateral under old CSAs.

Risk managers insist that the most practical way to measure significant exposure to a client is on a net basis- after accounting for margin posted under existing CSAs, but the Fed's failure to provide any further clarification on how to measure significant exposure is a source of frustration for many dealers.

"The Fed never gives clear statements and this has created a lot of uncertainty," a risk manager at First European Bank was quoted as saying, but he insisted that "until they tell us definitively, we will have to assume what we're doing is correct."

SFIG has been engaged with U.S. regulators on this issue. The recent no-action position from the CFTC (February 16th) and guidance from the prudential regulators (February 23rd) followed two SFIG meetings with representatives of CFTC and also with CFTC staff and the prudential regulators on February 6th and February 22, 2017, respectively, to discuss our request for temporary relief for legacy securitization transactions from the compliance date for variation margin requirements. If you would like to join SFIG's Derivatives in Securitization Task Force, please contact Alyssa.Acevedo@sfindustry.org.

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