The Basel Committee on Banking Supervision (“BCBS”) and the International Organization of Securities Commissions (“IOSCO”) jointly issued a final policy framework (the “Policy Framework”) establishing minimum standards for margin requirements for non-centrally cleared derivatives. The Policy Framework is a result of a 2011 G20 agreement calling upon BCBS and IOSCO to develop, for consultation, global standards for margin requirements for non-centrally cleared derivatives; BCBS and IOSCO released two consultative versions prior to releasing the current final version of the Policy Framework.
The Policy Framework requires the exchange of both initial and variation margin between so-called “covered entities” that engage in non-centrally cleared derivatives. The document explains that margin requirements for such derivatives “would be expected” to reduce systematic risk by ensuring the availability of collateral to offset losses caused by a counterparty default, and would also promote central clearing by reducing the perceived cost benefits of engaging in uncleared derivatives transactions. The Policy Framework further explains that margin requirements have certain benefits over capital requirements, such as being allocated to individual transactions rather than being shared across an entity’s full range of activities. Margin is also, in the words of the document, “defaulter-pay” in the sense that the margin provided by the defaulting party is used to absorb the losses caused by the default, as opposed to capital’s “survivor-pay” model in which the non-defaulting party bears losses out of its own assets.
The Policy Framework articulates eight “key principles,” each of which is accompanied by various related “requirements.” The key principles include the concepts that: (1) all financial firms and systemically important non-financial entities (“covered entities”) that engage in non-centrally cleared derivatives must exchange initial margin and variation margin as appropriate to the counterparty risks posed by such transactions; (2) initial margin should be exchanged without netting and held in such a way as to ensure that the margin is both immediately available to the collecting party in the event of a counterparty default and that the posting party is protected to the extent possible under applicable law in the event that the collecting party enters bankruptcy; and (3) regulatory regimes should interact so as to result in “sufficiently consistent and non-duplicative regulatory margin requirements” across jurisdictions. The Policy Framework also includes a discussion concerning appropriate treatment of non-centrally cleared derivatives in transactions with affiliates and provides appendices containing a standardized schedule of initial margin requirements (as a percentage of notional exposure) and a standardized haircut schedule (as a percentage of market value).