Clearing thresholds
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So in this new world where derivatives are finally seen as the weapons of financial mass destruction that Warren Buffett always said they were, the regulators have announced that, over certain thresholds, parties trading over-the-counter derivatives must clear them through a central clearing counterparty, and mark-to-market exposure arising from those types of derivative which cannot be (or are not) centrally cleared must be fully collateralised.
Short points: a non-financial counterparty must measure its gross exposure to derivatives — against any counterparty — by reference to predefined notionals (see below). If it is over these thresholds in total, it must post margin with respect to all of its exposures, to each counterparty, for that asset class. This does not necessarily affect its obligation to post VM for other asset classes.
Thus the grand excitement, culminating in the first quarter of 2017, of variation margin regulation (call it WGMR, SIMM, UMR - whatever the hell you like). The European Union articulation of it was in EMIR - the grandly titled European Market Infrastructure Regulation.
Financial counterparties
Er - if you're one of these you're in. Being one of these is basically a case of not being one of those. ↓
Non-financial counterparties
EMIR identifies two sub-categories of Non-Financial Counterparties (“NFC”).
Depending on the volume of derivatives a counterparty enters into, ESMA (European Securities and Markets Authority) has defined a set of clearing thresholds for each class of derivative and NFCs are classified relative to these thresholds.The calculation is based on gross notional values of positions (excluding cash products and spot FX that are ‘objectively measurable as reducing risks directly related to its commercial activity or treasury financing activity or that of its group (‘hedging derivatives’).
The regulatory obligations imposed on NFCs depend upon their NFC sub-categorisation.
- NFC+: A “non-financial counterparty above the threshold” or NFC+, is one whose rolling average position over 30 working days (excluding hedging derivatives) exceeds the thresholds.
- NFC-: A non-financial counterparty below the threshold or NFC-, is one whose rolling average position over 30 working days doesn’t exceed the thresholds in any derivative classes.
Query also whether your counterparty might qualify for the hedging exemption in Article 10(3) on the basis that it is fully, objectively, hedged.
Clearing thresholds by class
- Credit: EUR1billion
- Equity: EUR1 billion
- Interest rates: EUR3 billion
- Foreign Exchange: EUR3 billion
- Commodities and others: EUR3 billion