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OTC Derivatives: Evaluating the Impact of New Regulation in Europe, Thomas Heinatz, PWC
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OTC Derivatives: Evaluating the Impact of New Regulation in Europe, Thomas Heinatz, PWC

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Thomas Heinatz, Senior Manager, PwC ...

Thomas Heinatz, Senior Manager, PwC
Presentation at the DerivSource/Omgeo briefing 'OTC Derivatives: Evaluating the Impact of New Regulation in Europe' held in Frankfurt on November 13th 2013.

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  • 1. www.pwc.de/de/asset-management www.pwc.com/assetmanagement EMIR Status Update Regulatory Requirements and Implementation BVI/Omgeo OTC Derivatives: Evaluating the Impact of New Regulation in Europe 13 November 2013
  • 2. Contents Section Page 1 Executive Summary 1 2 Risk Mitigation Requirements 6 3 Trade Repository 8 4 Clearing 10
  • 3. Section 1 Executive Summary
  • 4. Section 1 – Executive Summary Simplified timeline for the OTC derivatives requirements to take effect 16 Aug 2012 Milestone Risk reducing techniques 19 Dec 2012 RTS2) EMIR passed taking effect byEC 15 Mar 2013 15 Sep 2013 12 Feb 2014 est. Jun 20141) est. Sep 20141) est. 20151) Obligation to RTS2) implement taking effect risk reducing techniques EMIR in force, no RTS Bilateral collateralization according to ‚best possible effort‘ Application of risk reducing techniques for non-central cleared OTC derivatives Reporting obligation for OTC derivatives Reporting Reporting obligation for ETD Clearing Bilateral Collateralization 1) 2) Clearing obligation via CCP Obligation to collateralize all OTC transactions Data based on ESMA information as of 13th of Sep Technical regulation standards for risk reducing measures; RTSD for bilateral collateralization still due EMIR Status Update • Regulatory Requirements & Implementation PwC 13 November 2013 2
  • 5. Section 1 – Executive Summary According to a PwC Study ‘The future of capital markets’ EMIR will require the highest implementation effort Key Findings Estimated implementation effort EMIR MiFID II & MiFIR Basel III/ CRD IV 1 • The implementation effort for each regulatory requirement mainly corresponds with their deadlines Financial Transaction Tax 100% Short-term 2012 50% 0% 100% Mid-term 2013-14 • In the short and mid-term, EMIR will have the highest implementation effort – followed by Basel III Very high High Low 50% Very Low 0% No effort 100% Long-term from 2015 Unknown • The requirement for additional OTC derivatives to be centrally cleared in the future is expected to be implemented with less effort • Most participants are unsure of the impact of the Financial Transaction Tax • The part of “unknown” regarding MiFID II reflects that the market awareness of the difference between MiFID I & II is still not given 50% 0% (of participants in %) EMIR Status Update • Regulatory Requirements & Implementation PwC 1 Banks only 13 November 2013 3
  • 6. Section 1 – Executive Summary The new regulation has foreseeable implications on the business and operating model as well as on the contractual relationships • Business Model • • • Contractual Relationships Operating Model • • • If applicable, higher costs and reduced liquidity because of collateralization – with noteworthy implications on performance, provided that cash collaterals are not centrally provided Impact on the profitability of the funds (especially when using not-cleared OTC derivatives) If applicable, more efficient payment transactions, because cash flows are aggregated by the clearing broker (the effect is diluted by breaking down onto many clearing brokers) Introduction of the necessary infrastructure and establishment of the necessary connectivity (e. g. using of the clearing brokers as intermediaries) New contractual relationships (e. g. with clearing brokers) If applicable, adjustment of available contractual agreements (e. g. with collateral management service providers, custodians, counterparties, asset managers) If applicable, adjustment of SLAs (e. g. cut-off times) Portfolio Management and Front Office Applications • Processes: consideration of security standards; IT: connection to the electronic trading desks; consideration of the clearing broker and CCP in the order masks Middle Office • Processes: settlement, cut-off times; IT: business status concept Accounting • Processes: identification of different types of derivatives (clearing eligible vs. non-clearing eligible) and booking of the margin; IT: adjustment of the booking logic Risk Management and Controlling, Compliance • Processes: Monitoring of counterparty limits; IT: implementation of risk management requirements Reporting: • Status message to the transaction register Interfaces • Adjustments between the systems along whole process chain EMIR Status Update • Regulatory Requirements & Implementation PwC 13 November 2013 4
  • 7. Section 1 – Executive Summary EMIR hot topics from various perspectives: legal, regulatory, business and operations (selected items) • Documenting and negotiating client clearing agreements • document structures with clearing brokers • SLAs with clearing brokers, collateral managers and custodians • compensation agreements with execution brokers • Effective and efficient collateral management • Future setup and partners • Processes: administration, accounting and controlling of collateral workflow • Cash vs. security collateral • availability of eligible assets • need for same day settlement of initial margin • Funds vs. direct investments • different legal requirements will lead to a variety of processes • embedding of pooling setups • Buffer at CCP: true excess • Handling of margin calls on holidays • Dealing with/meeting the buy-side conflicting investment rules • Extraterritoriality • Accounting approach EMIR Status Update • Regulatory Requirements & Implementation PwC 13 November 2013 5
  • 8. Section 2 Risk Mitigation Requirements
  • 9. Section 2 – Risk Mitigation Requirements Risk mitigation actions have been mandatory since 15/9/2013 and are mostly in place • Portfolio reconciliation  FCs and NFCs must agree in writing or by other equivalent electronic means with their counterparties the terms on which portfolios will be reconciled  portfolio reconciliation must cover key trade terms and valuation  frequency of reconciliation set out in Article 13 of RTS and dictated by counterparty status and number of OTC derivative contracts outstanding  portfolio reconciliation can be delegated  due date will differ from counterparty to counterparty and should be until mid of December 2013  TriResolve has been established as a certain market standard • Dispute resolution  the identification, recording and monitoring of disputes relating to the recognition or valuation of the contract and exchange of collateral  the resolution of disputes in a timely manner with a specific process for disputes outstanding for more than five business days • Portfolio compression  applies to FCs and NFCs with over 500 uncleared OTC derivative contracts outstanding to a single counterparty  obligation to analyze the possibility of compression twice a year and be able to provide a reasonable and valid explanation to the relevant competent authority if conclude portfolio compression not appropriate EMIR Status Update • Regulatory Requirements & Implementation PwC 13 November 2013 7
  • 10. Section 3 Trade Repository
  • 11. Section 3 – Trade Repository Meeting the reporting deadline as of 12/2/2014 is a challenging task due to incomplete specifications and technical bottlenecks • The European Securities and Markets Authority (ESMA) has approved on 7/11/2013 the registrations of the first four trade repositories (TRs) under the European Market Infrastructure Regulation (EMIR). The following entities are registered as TRs for the European Union (EU):  DTCC Derivatives Repository Ltd. (DDRL), based in the United Kingdom  Krajowy Depozyt Papierów Wartosciowych S.A. (KDPW), based in Poland  Regis-TR S.A., based in Luxembourg  UnaVista Ltd, based in the United Kingdom • The registrations will take effect on 14 November 2013, with the reporting obligation beginning on 12 February 2014, i.e. 90 working days after the official registration date • The registered TRs cover all derivative asset classes –commodities, credit, foreign exchange, equity, interest rates and others – irrespective of whether the contracts are traded on or off exchange • Request for delay of ETD reporting obligation issued by ESMA has been rejected by EU Commission on 7/11/2013; ETD will remain subject of reporting as of 12/4/2014  BVI will start new initiative towards BaFin to avoid ETD reporting obligation for KVG • Past transactions could be affected for reporting within different periods:  Made before 16/8/2012 – no reporting required  Made on or after 16/8/2012 and still open – reporting by 12/5/2014 (three month after reporting start)  Made on or after 16/8/2012 and closed by 12/2/2014 – reporting by 12/2/2017 (due within three years) EMIR Status Update • Regulatory Requirements & Implementation PwC 13 November 2013 9
  • 12. Section 4 Clearing
  • 13. Section 4 – Clearing Setting up the clearing infrastructure, clearing processes and the legal documentation has turned out to last longer than expected Make clearing arrangements Either become a CCP member firm, a client of a CCP member firm, or have indirect clearing arrangements (client to client) Select two clearing brokers Give both of them a share of the trades Select as many CCP as necessary to cover your products As of today, most CCPs cover only either IRS or CDS Initiate the onboarding with MarkitWire MarkitWire is the market standard covering both IRS and CDS with different CB and CCP The focus of the clearing broker onboarding is on processes, interfaces and cut-off times The relevant clearing brokers provide a detailed project plan and dedicated resources for the onboarding Key impacts (selected items) Increases costs of trading, ties up capital in margin and default fund requirements (indirectly passed on to end clients) and clearing fees Cost Operations X X Firms lose the ability to set margin (or even to waive margin) X Requires new systems and internal processes to coordinate reporting, accounting to CCP or CCP member firm systems New EU collateral standards restrict the types of assets which can be held as CCP collateral and forbid re-hypothecation (repledging) of collateral EMIR Status Update • Regulatory Requirements & Implementation PwC Strategy X X X 13 November 2013 11
  • 14. Your contact Thomas Heinatz Senior Manager Friedrich-Ebert-Anlage 37 60327 Frankfurt am Main, Germany Phone: Mobile: Email: +49 69 9585 3621 +49 171 7636083 thomas.heinatz@de.pwc.com