Expiring EMIR exemption will make as from 15 March 2016 CCP collateral more costly for non-financial counterparties.
EMIR Article 46(1) of Regulation (EU) No 648/2012 requires that bank guarantees, used as collateral for CCP clearing of power and gas derivatives, are fully backed by collateral that meets the following conditions:
- it is not subject to wrong way risk based on a correlation with the credit standing of the guarantor or the non-financial clearing member, unless that wrong way risk has been adequately mitigated by haircutting of the collateral;
- the CCP has prompt access to it and it is bankruptcy remote in case of the simultaneous default of the clearing member and the guarantor.
All CCPs were given a three year exemption in regards to EMIR Article 46(1) allowing non-financial participants to continue to use non-fully backed bank guarantee as collateral in respect to positions that are:
a) derivatives relating to electricity or natural gas produced, traded or delivered in the European Union;
b) derivatives relating to the transportation of electricity or natural gas in the European Union.
Identifying the legal basis for the above significant and, potentially, costly requirements is somewhat complex. EMIR Article 46(1) represents the general legal base whereas the detailed concrete provisions can be found in the Commission Delegated Regulation (EU) No 153/2013 of 19 December 2012 supplementing Regulation (EU) No 648/2012 of the European Parliament and of the Council with regard to regulatory technical standards on requirements for central counterparties
The three year exemption period expires on 15 March 2016 (Article 62 of the Regulation 153/2013).
EMIR Article 46(1) Collateral requirements
A CCP shall accept highly liquid collateral with minimal credit and market risk to cover its initial and ongoing exposure to its clearing members. For non-financial counterparties, a CCP may accept bank guarantees, taking such guarantees into account when calculating its exposure to a bank that is a clearing member. It shall apply adequate haircuts to asset values that reflect the potential for their value to decline over the interval between their last revaluation and the time by which they can reasonably be assumed to be liquidated. It shall take into account the liquidity risk following the default of a market participant and the concentration risk on certain assets that may result in establishing the acceptable collateral and the relevant haircuts.
Commission Delegated Regulation (EU) No 153/2013
Article 39 Financial instruments
For the purposes of Article 46(1) of Regulation (EU) No 648/2012, financial instruments, bank guarantees and gold that meet the conditions set out in Annex I shall be considered as, highly liquid collateral.
Article 62 Entry into force and application
This Regulation shall enter into force on the twentieth day following that of its publication in the Official Journal of the European Union. Point (h) Section 2 of Annex I shall apply from three years after the date of entry into force of this Regulation in respect of transactions on derivatives, as referred to in points (b) and (d) of Article 2(4) of Regulation (EU) No 1227/2011 of the European Parliament and of the Council.
Annex I Section 2 Bank guarantees
1. A commercial bank guarantee, subject to limits agreed with the competent authority, shall meet the following conditions to be accepted as collateral under Article 46(1) of Regulation (EU) No 648/2012:
(a) it is issued to guarantee a non-financial clearing member;
(b) it has been issued by an issuer that the CCP can demonstrate to the competent authority that it has low credit risk based upon an adequate internal assessment by the CCP. In performing such assessment the CCP shall employ a defined and objective methodology that shall not fully rely on external opinions and that takes into consideration the risk arising from the establishment of the issuer in a particular country;
(c) it is denominated in one of the following currencies:
(i) a currency the risk of which the CCP can demonstrate to the competent authorities that it is able to adequately manage;
(ii) a currency in which the CCP clears contracts, in the limit of the collateral required to cover the CCP's exposures in that currency;
(d) it is irrevocable, unconditional and the issuer cannot rely on any legal or contractual exemption or defence to oppose the payment of the guarantee;
(e) it can be honoured, on demand, within the period of liquidation of the portfolio of the defaulting clearing member providing it without any regulatory, legal or operational constraint;
(f) it is not issued by:
(i) an entity that is part of the same group as the non-financial clearing member covered by the guarantee;
(ii) an entity whose business involves providing services critical to functioning of the CCP, unless that entity is an EEA central bank or a central bank of issue of a currency in which the CCP has exposures;
(g) it is not otherwise subject to significant wrong-way risk;
(h) it is fully backed by collateral that meets the following conditions:
(i) it is not subject to wrong way risk based on a correlation with the credit standing of the guarantor or the non- financial clearing member, unless that wrong way risk has been adequately mitigated by haircutting of the collateral;
(ii) the CCP has prompt access to it and it is bankruptcy remote in case of the simultaneous default of the clearing member and the guarantor.
(i) the suitability of the guarantor has been ratified by the board of the CCP after a full assessment of the issuer and of the legal, contractual and operational framework of the guarantee in order to have a high level of comfort on the effectiveness of the guarantee, and notified to the competent authority.