The New Year will finally bring new clearing, collateral and bilateral margin regulations. Expect a bifurcation between cleared and non-cleared derivatives, and an increased use of utilities for collateral management processing says Commerzbank’s Eugene Stanfield.
Looking back, 2015 can be characterized mostly as a long wait for clarity around pending regulations, with relatively few significant milestones. However, there has been a notable change in the tone of communications from regulators, who have realised that participants need to have more clarity, and expectations need to be more closely managed. The summer of 2015, there were significant statements announcing increased cooperation between the US and UK regulators—although despite ongoing chatter, no solutions have materialised to date. Lord Hill also made a statement regarding when clearing was expected to come into play—several years earlier such openness would have been unthinkable.
In 2016, we are going to see much more of a focus on, and resource allocation to clearing. We strongly expect the clearing mandate to come into play for category 1 and 2 participants, which is the majority of the market from a derivatives point of view. We will therefore be spending a lot of time preparing our clients for the upcoming regulations, going through the legal and operational components of the onboarding process, and connecting them with the clearinghouses.
Most people understand what they have to do around clearing, they just haven’t all done it yet. The collateral piece, on the other hand, is not so well understood. There is generally sufficient collateral to meet the new requirements: the challenge is mobilising it. Securities might be locked up, institutions might not know how to deliver them, or how to hypothecate them into cash. That is going to be a concern and focus in 2016—and not just from a dealer-to-dealer perspective, but also dealer to client, and maybe even—from a fintech point of view—client to client.
Sell Side Sets the Standard for Bilateral Margin
Phase 1 of the bilateral margining rules is scheduled for 2016. This is going to be predominantly owned by the large global dealers, which are going to set the market standard in terms of how it works and operates. It will be very important for other market participants to be aware of what is going on, partly because it will impact how they operate from a bilateral point of view, but also because indirectly it might force or incentivise people to go more into the clearing route.
As the bilateral margin rules come into force, we will see a bifurcation between the cleared and bilateral environment. There are a lot of market participants who don’t trade non-standardised products—they just trade vanilla interest rate products, for example. These types of vanilla products may need to be altered slightly to make them clearable, but they are naturally going to be moved to the central clearing side when the new rules come into play.
The Rise of Utilities for Derivatives Processing
Utilities could see increased uptake in 2016. Market participants have many changes to implement, and limited resources and people to support them. A lot of asset managers don’t yet have a robust collateral management infrastructure in place, and so they may choose to outsource their collateral management operations to a utility provider. Operational costs for post-trading activities, while not going down, are fairly stable and utilities can benefit from economies of scale.
Overall, 2016 will be a challenging year as firms look to meet all the new regulatory requirements, while still dealing with limited resources and IT budgets.
Eugene Stanfield is managing director, head of execution and clearing services at Commerzbank. To watch his video interview please go to the DerivSource YouTube Channel.
