Regulatory Margin – June 2022 Update

In anticipation of the phase-in of Phase 6 initial margin (IM) on 1 September this year and noting the recent publication by the Indian regulator of variation margin (VM) rules, we set out below a few notable recent developments which may be of interest to market participants:

• Passing of China’s Futures and Derivatives Law: The PRC Futures and Derivatives Law (the “FDL”) was passed on 20 April 2022 and will come into effect on 1 August 2022.  The FDL will provide, for the first time at the national legislation level under PRC law, express recognition for the enforceability of close-out netting provisions and the single agreement concept.  The general market consensus is that China will become a “clean-netting” jurisdiction with the coming into effect of the FDL.   
     
  Market participants currently relying on exemptions in their home margin rules from exchanging regulatory margin when trading with PRC counterparties will have to consider how the PRC’s switch from a “non-netting” jurisdiction to a “clean-netting” jurisdiction will impact those trading relationships.  
  
  At the moment, market participants are awaiting the publication by ISDA of the PRC-law netting and collateral opinions and the outcome of ISDA’s advocacy efforts in various jurisdictions for a “transitional relief” to give market participants sufficient time to prepare for the exchange of regulatory margin with PRC counterparties.
• Indian VM regulations: On 1 June, the Reserve Bank of India (RBI) published the Master Direction – Reserve Bank of India (Variation Margin) Directions, 2022 (the “RBI VM Regulations”), which will come into effect on 1 December 2022.  The RBI VM Regulations apply directly to “Domestic Covered Entities” when they trade certain “Non-centrally cleared derivatives (NCCD)” with another Domestic Covered Entity or a “Foreign Covered Entity”.  Certain thresholds (based on group Average Aggregate Notional Amount of outstanding NCCDs) apply in determining whether an entity is a Domestic Covered Entity or a Foreign Covered Entity.  
  
  Notably, branches of foreign banks operating in India are, to the extent that they meet the relevant AANA thresholds, considered as Domestic Covered Entities. VM between two Domestic Covered Entities are required to be exchanged using eligible onshore collateral.  VM between a Domestic Covered Entity and a Foreign Covered Entity may be exchanged using certain offshore collateral in addition to the eligible onshore collateral.  Substituted compliance may be applied to an NCCD transaction between a Domestic Covered Entity and a Foreign Covered Entity when the relevant criteria are met.
  
  Market participants with derivatives operations in India should, to the extent they have not already done so, start considering any re-papering and operations set-up required to comply with the RBI VM Regulations.
• Lessons learned in relation to Korean margin rules compliance: Following the publication by ISDA of the 2021 Korean Law Security Agreement for Initial Margin (IM) and the KRW Collateral (IM) Addendum for use with the ISDA 2019 Collateral Transfer Agreement for Initial Margin (IM) (CTA), and by the Korea Securities Depository of the form of initial margin account control agreement (ACA), the market has been progressing on repapering their margin documentation entered into with Korean counterparties.  A few lessons learned are: i) whether market participants should consider having the ACA prevail over the CTA given that parties will have negotiated their preferred provisions in the ACA; (ii) given the inability to post cash collateral where KSD is the custodian, market participants can consider using the cash leakage rider for IM documents published by ISDA; and (iii) whether it is favourable to have two CTAs put in place with one covering onshore collateral custodied with the local KSD custodian and the other covering more generic collateral.

Linklaters acted as drafting counsel to ISDA on the "Next Generation" IM documentation and has developed for ISDA an online negotiation tool for IM - “ISDA Create”. We have also been working with numerous Asian clients in this area, and we would be happy to assist you with your IM implementation efforts. For a list of FAQs, click "read more" below.