The design features for the omnibus client account (omnibus segregated account - OSA) have been established by the EMIR Regulation and cover the client account that is fully segregated from the clearing member's house account, but the positions of the non-segregated clients are commingled.
This is the minimum level of segregation required under EMIR.
To explain the nature of the omnibus client account it is necessary to refer to one of the fundamental EMIR assumtions i.e. that EMIR does not allow the use of unsegregated accounts.
Article 39(2) and 39(3) of EMIR provide that central counterparties (CCPs) must offer both 'individual client segregation' and 'omnibus client segregation' (these terms being defined in Articles 39(2) and 39(3) of EMIR).
While CCPs might offer other levels of protection in addition to individual client segregation and omnibus client segregation (e.g. an omnibus gross margin client model), omnibus client segregation is the minimum level of client protection that can be used.
The different story is with segregated accounts for indirect clients. The CCP may, at the request of a clearing member, set up individually segregated accounts (ISA), in which the positions and assets of indirect clients of a client may be recorded, but there is no obligation to do so.
It should be noted, however, as explained by the ESMA Q&As, that the provisions of Article 4 of EMIR and Article 2 of Commission Delegated Regulation (EU) No 149/2013 on indirect clearing apply only to OTC derivatives and not to all products (since they are lodged within Article 4 of EMIR and are said to be for the purpose of meeting the clearing obligation).
EMIR Article 39(2) wording requires for the omnibus client segregation that the CCP keeps separate records and accounts enabling the clearing member to distinguish the assets and positions of the clearing member from the assets and positions held for the account of its clients.
The application of this model of client segregation requires the following agreements' structure:
- an agreement at a clearing member level with a client concerned,
- relevant framework agreement between the CCP and a clearing member.
In many cases this option is likely to be more economical than individual client account, both in terms of total margin called, settlement costs and number of collateral accounts required. The account will have a single margin call and will therefore benefit from margin netting across all clients within the account.
The said argument is based on a market practice where the CCP generally call for margin on the basis of the aggregate positions in an omnibus account, with the different trades being offset against each other.
Gross/nett omnibus client accounts
ESMA EMIR Review Report of 13 August 2015 - Review on the segregation and portability requirements (2015/1253) contains interesting comments on the origin and current developments for the differentiation within the category of omnibus client accounts of the two sub-types of accounts i.e. those which are settled on a gross or the nett basis.
As ESMA notes, a number of EU CCPs have implemented, in addition to the EMIR segregation models, the sub-types of omnibus client accounts to widen the service offering (sometimes in response to some specific requests from clearing members or clients, due to the global nature of their activities and the interaction of these requirements with other segregation models or requirements from other jurisdictions).
These most common sub-types of omnibus client accounts are:
- one usually called net omnibus client account - where the positions of all clients in the omnibus client account are recorded on a net basis and the corresponding margins are calculated by the CCP on this net basis, and
- the other one called gross omnibus client account- where positions of all clients in the omnibus client account are recorded on a gross basis and the corresponding margins can be calculated by the CCP on each client position, and are thus individually identifiable even if they do not as such benefit from the individual client account protection.
ESMA observed in the above Report od 13 August 2015, the omnibus client account gross solution can be an element of the model that is applicable in the US for futures commission merchants (FCMs) so it has been implemented by CCPs to accommodate their clearing members which clear trades for US clients.
However, what is surprising, apart from a few cases where it was the historical model, the take up for individual client accounts is minimal and there was no straightforward explanation from the CCPs.
The reasons for this, listed by ESMA, could be a lack of interest, the absence of mandatory clearing obligation, the inadequacy of technical and operational solutions corresponding to the models, the cost of implementation (most probably indirect costs) and of individual client account day to day management.
On derivatives there are only a few individual client accounts being taken up by those few clients interested in the potential beneficial capital treatment, but the provisions of the Capital Requirements Regulation (CRR) on qualified CCPs have not come into force yet.
ESMA observed also a lack of clarity about what each account structure could achieve in terms of protection for clients, given the legal uncertainty toward national insolvency laws and given the current wording of EMIR that leaves it to the CCPs to ensure that certain measures for clients protection are safeguarded.
This, in the ESMA opinion, has probably resulted in a lack of clarity on the benefits associated with each choice of accounts.
Therefore, some clients only saw higher costs, whereas the degree to which the different account structures effectively ensured higher protection remained uncertain to them.
Recital 18 of the Proposal for a Regulation of the European Parliament and of the Council amending Regulation (EU) No 648/2012 as regards the clearing obligation, the suspension of the clearing obligation, the reporting requirements, the risk-mitigation techniques for OTC derivatives contracts not cleared by a central counterparty, the registration and supervision of trade repositories and the requirements for trade repositories, COM(2017)208, May 2017, p. 15
Uncertainties remain as to what extent assets held in omnibus or individual segregated accounts are insolvency remote. It is therefore unclear in which cases CCPs can with sufficient legal certainty transfer client positions where a clearing member defaults, or in which cases CCPs can, with sufficient legal certainty, pay the proceeds of a liquidation directly to clients. To incentivise clearing and to improve access to it, the rules relating to insolvency remoteness of those assets and positions should be clarified.
The above risks are addressed by the European Commission Proposal of May 2017 for a Regulation of the European Parliament and of the Council amending Regulation (EU) No 648/2012 as regards the clearing obligation, the suspension of the clearing obligation, the reporting requirements, the risk-mitigation techniques for OTC derivatives contracts not cleared by a central counterparty, the registration and supervision of trade repositories and the requirements for trade repositories (COM(2017)208, p. 15), which inserted a new paragraph to EMIR Article 39 to clarify that assets covering the positions recorded in an account are not part of the insolvency estate of the CCP or clearing member that keeps separate records and accounts.
This provision is intended to offer certitude to those who provide clearing services or offer their clients the possibility to provide such services that they can fulfil their commitments with regard to the EMIR default management procedures as well as to incentivise them to provide access to central clearing of OTC derivatives contracts as a service.
Equally the provisions offer certitude to clients and indirect clients that in the case of default of a clearing member or a client providing clearing services, their assets are protected and can, thus, be ported to other clearing members or clients that provide indirect clearing services.
Gross OSA vs. ISA - any differences?
Given the above merits of the omnibus gross client account, the question may arise as regards differences between gross OSA and ISA accounts.
ESMA Discussion Paper of 26 August 2015, Review of Article 26 of RTS No 153/2013 with respect to client accounts (ESMA/2015/1295) explains this arguing that although ISA and OSA gross provide overall the same amount of margins if collected with the same margin period of risk (MPOR), in a default scenario, "in an OSA gross structure the CCP should be able to rely on all the margins collected and available in the omnibus account, whereas in an ISA structure the CCP can only rely on the gross margins collected in the single ISA account."
The above ESMA Discussion Paper of 26 August 2015 draws also a parallel with the USA, where "in a futures gross account structure (the one applicable to ETD), the CCP collects gross, but when dealing with a default, all clients are equally exposed to the default of other clients or of the clearing member."
Omnibus clients account risks
In the context of above considerations it may be useful to refer to legal risks involved with the use of omnibus client accounts.
The key one in that regard is that assets covering positions in an omnibus account are not exposed to losses only on positions recorded in any other account, but within the account one client's assets may be used to cover another client's positions. Hence the clients having omnibus client member account share their risks (fellow client risk).
Another drawback of omnibus client account represents the fact that excess collateral can be held at the clearing member level.
Moreover, omnibus possiblilities for netting are really interesting, but it is to be bore in mind that positions can be netted only within an omnibus account and not across accounts.
Another shortcoming is that for net omnibus account structures, porting the entire portfolio of assets and positions as a unit would be very difficult and rarely work in practice.
Liquidation risk should also be identified in connection with this type of the clearing account - it relates to the possibility that if the CCP transactions and assets linked to them were to be ported, there is a risk that any non-cash assets would be liquidated into cash. If this were to happen, the value given to such assets by the CCP may differ from client expectations for assets' full value.
Among other types of risks often evoked are:
- haircut risk – whether the value of the assets that relate to CCP transactions might be reduced or not increase by as much as client expects because the CCP applied a haircut that did not properly reflect the value of the asset;
-valuation mutualisation risk – the value of the assets that relate to CCP transactions could be reduced or not increase by as much as client expects because the assets posted in relation to other clients’ CCP transactions have decreased in value;
- CCP insolvency risk – client is exposed to the insolvency or other failure of the CCP (but see the aforementioned legislative drafts intended to manage insolvency risks);
- clearing broker insolvency risk – client is exposed to the insolvency or other failure of the clearing member of the CCP.
Transit Risk should also be noted.
More on the comparisons between individual and omnibus client account see Client segregation and portability under EMIR.
Consultation Paper Indirect clearing arrangements under EMIR and MiFIR, 5 November 2015, ESMA/2015/1628, p. 31
Draft Commission Delegated Regulation supplementing Regulation (EU) No 600/2014 of the European Parliament and the Council with regard to regulatory technical standards on indirect clearing arrangements, Annex IV - Draft RTS on the indirect clearing arrangements under MiFIR,
Recitals 5 and 6
(5) For client clearing, the first choice of account is an omnibus account. This account structure is the less complex structure that can be required while still ensuring a separation between the collateral and positions of the end indirect client and the collateral and positions of the client providing clearing services. The requirement for this first choice of account structure should therefore be mirrored for indirect clearing arrangements.
(6) The second choice of account is an individually segregated account, which requires separate accounts for each indirect client and thus an increased number of operational processes to manage all the separate accounts than if the indirect clients were managed in a single account. Requiring such an account structure in the case of indirect clearing services would multiply the number of necessary accounts and related operational processes, raising the complexity, cost and operational risk of indirect clearing arrangements.
Alternatively, a gross omnibus indirect account structure with a mechanism of a transfer of margin from the indirect client all the way to the CCP would allow to achieve an equivalent distinction between the collateral and the positions held for the account of a specific indirect client from the collateral and the positions held for the account of the direct client or other indirect clients, while requiring a much simpler account structure. Such an alternative account structure and processing would reduce the number of accounts to be opened and maintained and therefore the related number of operational steps to margin and settle collateral in these accounts. This structure would reduce the cost and complexity compared to individually segregated indirect client accounts, while still permitting to distinguish the collateral and the positions of different indirect clients and therefore ensuring an equivalent level of protection as an individually segregated account. Although an individually segregated indirect account could still be offered, the requirements applicable to the use of the gross omnibus indirect account would at least need to be met.
Information concerning safeguarding of client financial instruments or client funds pursuant to MiFID II secondary legislation
Article 49(3) and (4) of the Commission Delegated Regulation of 25.4.2016 contains important requirements regarding information concerning safeguarding of client financial instruments or client funds, which apply to omnibus client accounts (see box).
Article 49(3) and (4) of the Commission Delegated Regulation (EU) of 25.4.2016 supplementing Directive 2014/65/EU of the European Parliament and of the Council as regards organisational requirements and operating conditions for investment firms and defined terms for the purposes of that Directive
(3) Where financial instruments of the client or potential client may, if permitted by national law, be held in an omnibus account by a third party, the investment firm shall inform the client of this fact and shall provide a prominent warning of the resulting risks.
(4) The investment firm shall inform the client or potential client where it is not possible under national law for client financial instruments held with a third party to be separately identifiable from the proprietary financial instruments of that third party or of the investment firm and shall provide a prominent warning of the resulting risks.
Consultation Paper Indirect clearing arrangements under EMIR and MiFIR, 5 November 2015, ESMA/2015/1628
Final Report Draft regulatory technical standards on indirect clearing arrangements under EMIR and MiFIR, 26 May 2016, ESMA/2016/725
Commission Delegated Regulation (EU) 2017/565 of 25 April 2016 supplementing Directive 2014/65/EU of the European Parliament and of the Council as regards organisational requirements and operating conditions for investment firms and defined terms for the purposes of that Directive, (Article 49(3) and (4))
Client segregation and portability under EMIR