ISDA is supportive of the study's three main aims, namely creating systemic resiliency, promotion of central clearing, and the preservation of market and collateral liquidity.
No mandatory initial margin ("IM")
ISDA strongly opposes the requirement for a universal two-way exchange of IM between financial firms and systemically important non-financial firms ("Covered Entities") in the way that is described in the Study. The effects of the proposed rules are likely to lead to a significant liquidity drain on the market, estimated to be in the region of US$15.7 trillion to US$29.9 trillion for IM only. The scale of additional collateral should be seen in the light of:
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the size of balance sheets of the Federal Reserve and the ECB (which hold large amounts of collateral) are around $3 trillion;
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the quantitative easing (QE) exercises conducted by the large central have ranged between $0.5 and $1 trillion;
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the capital of the largest 16 banks in the global banking system is around $1 trillion.
Such demands on liquidity could cause enormous pressure on market liquidity with the potential for significant dislocation to the general economy, which makes the imposition of mandatory IM inconsistent with the letter and the spirit of the G20 leaders' recommendation. Furthermore, the proposed IM requirements would have significant pro-cyclical effects in times of stressed financial markets. A better tool for promoting systemic resiliency is the Basel III capital framework.
Posting Variation Margin ("VM")
ISDA endorses the collection of VM between Covered Entities as a means to promote systemic resiliency. VM is a practical mechanism which may be used to avoid the accumulation of unrecognized losses with counterparties that could become a source of instability to the system. In fact, VM exchange alone with no thresholds should address systemic resilience concerns.
Include provisions to alleviate the negative market impact
If BCBS/IOSCO continue to consider including IM in the margin requirements, ISDA respectfully urges BCBS/IOSCO actively to seek and include specifications that will lessen the negative effects as described above. For example, narrowing the scope of entities on which IM requirements are imposed would reduce the amount of collateral withdrawn from the markets and could materially lessen the adverse side effects. Additionally, ISDA supports the use of thresholds as a way to mitigate demands on required collateral. Appropriate levels should be commercially negotiated and mutually agreed by the parties. In order to avoid excessively high thresholds, ISDA proposes that the aggregate unsecured exposure to non-cleared derivatives of a prudentially regulated entity ("PRE") be set in relation to Tier 1 capital. ISDA strongly encourages BCBS/IOSCO to carry out a thorough analysis of the potential impact of margin requirements under consideration before implementation.
Full letter
© ISDA - International Swaps and Derivatives Association
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