knowledge 9 October 2015 |

EMIR Update: Credit Derivatives and the Clearing Obligation

Background

EMIR requires certain OTC derivatives to be centrally cleared and mandates the European Securities and Markets Authority (“ESMA”) to propose the classes of OTC derivatives to which the central clearing obligation will apply, as well as the dates from which that obligation will take effect for each of the different types of counterparties identified.

In this context, ESMA has already published a discussion paper and four consultation papers. The consultation papers deal with, respectively; interest rate OTC derivative classes denominated in one of the G4 currencies (EUR, GBP, JPY, and USD), credit default swaps, foreign exchange non-deliverable forwards, and interest rate derivative classes denominated in CZK, DKK, HUF, NOK, PLN and SEK.

ESMA published its first final report on the EMIR clearing obligation on 1 October 2014 covering interest rate OTC derivative classes denominated in one of the G4 currencies. Subsequently, on 6 August 2015, the Europen Commission published the first Delegated Regulation on the clearing obligation covering OTC derivative classes denominated in these currencies, which is currently being considered by the European Parliament and the Council (the “First Draft Delegated Regulation”) (see our related briefings here and here).

The Draft Delegated Regulation

The Draft Delegated Regulation applies the clearing obligation to Untranched iTraxx Index CDS (Main, EUR, 5Y) and Untranched iTraxx Index CDS (Crossover, EUR, 5Y). Its provisions mirror the overall approach of the First Draft Delegated Regulation, in particular as regards the categorisation of counterparties, the treatment of intragroup transactions and the scope of the front-loading requirement.

Categorisation of counterparties

The Draft Delegated Regulation sets out four different categories of counterparties to which the clearing obligation applies and specifies the phase-in periods for each. The different categories and phase-in periods are as follows:

Category 1: clearing members of a recognised or authorised central counterparty (“CCP”) for at least one of the classes of iTraxx Index CDS covered by the Draft Delegated Regulation – 9 months after the Delegated Regulation enters into force;

Category 2: financial counterparties as defined in EMIR (“FCs”), and alternative investment funds as defined in the Alternative Investment Fund Managers Directive² (“AIFs”) that are non-financial counterparties as defined in EMIR (“NFCs”), which belong to a group whose aggregate month-end average of outstanding gross notional amount of non-centrally cleared derivatives is above EUR 8 billion for each of the three months after the Delegated Regulation is published in the Official Journal, excluding the month of publication – 15 months after the Delegated Regulation enters into force;

Category 3: FCs and AIFs that are NFCs not falling within categories 1 or 2 – 21 months after the Delegated Regulation enters into force; and

Category 4: NFCs not falling within another category – three years after the Delegated Regulation enters into force.

Where the counterparties to a contract belong to different categories, the later of the dates applicable to those categories applies.

Intra-group Transactions

Specific phase-in periods also apply to intra-group transactions concluded between a counterparty established in a Member State and another group member established in a third country, which fulfil certain conditions (“Intra-group Transactions”).

In the case of Intra-group Transactions, the relevant period for the entry into effect of the clearing obligation depends on whether or not an equivalence decision pursuant to EMIR has been adopted for the relevant third country in which the group counterparty is established. If such a decision has been adopted, then clearing is required from the later of 60 days after the adoption of the equivalence decision and the date from which the clearing obligation takes effect under categories 1, 2 or 3, as appropriate. If no such decision has been adopted, then clearing is required three years after the Delegated Regulation enters into force.

Front-loading

Under EMIR, the clearing obligation applies to contracts concluded on or after the date on which a CCP was first authorised under EMIR, which occurred on 18 March 2014, but before the date the clearing obligation takes effect, provided this is justified by the remaining maturity of such contracts at that date.

The draft Delegated Regulation specifies minimum maturities ranging from six months to five years and three months and front-loading will be required with an effective date of five months after the Delegated Regulation enters into force.

Next Steps

The European Commission has now three months to decide whether or not to adopt the Draft Delegated Regulation. Should the Commission adopt it, the Commission must immediately notify the European Parliament and the Council, which then have a further period in which to object to the Draft Delegated Regulation. In the absence of any such objection, the Draft Delegated Regulation will be published in the EU’s Official Journal and will enter into force shortly thereafter (currently, 20 days following such publication).

You may access the ESMA’s Second Report here.