Swaps end-users that trade derivatives with counterparties established in the European Union (EU) or that have affiliates established in the EU that trade derivatives, are subject to certain European Market Infrastructure Regulation (EMIR) risk mitigation requirements (EMIR Risk Mitigation Requirements). The UK Financial Conduct Authority (FCA) recently announced that it expects firms to demonstrate compliance with the EMIR Risk Mitigation Requirements by April 30, 2014. An end-user’s failure to comply with the EMIR Risk Mitigation Requirements may adversely affect its ability to continue to trade with derivatives dealers established in the EU after April 30, 2014.
What are the EMIR Risk Mitigation Requirements?
Under EMIR, counterparties that trade uncleared OTC derivative contracts are required to comply with certain risk mitigation techniques (RMTs). RMTs required for end-users include timely confirmation deadlines, portfolio reconciliation arrangements, portfolio compression exercises and dispute resolution procedures. The EMIR Risk Mitigation Requirements demand that counterparties enter into written agreements to address these RMTs prior to trading. Click on the link for our Swaps End-User Update with a summary of EMIR RMTs.
How do End-Users Comply With the EMIR Risk Mitigation Requirements?
OTC derivatives dealers established in the EU typically offer counterparties the following alternatives for addressing the EMIR Risk Mitigation Requirements:
- Adhere to the ISDA 2013 Portfolio Reconciliation, Dispute Resolution and Disclosure Protocol (the EMIR Risk Mitigation Protocol). The EMIR Risk Mitigation Protocol enables counterparties to amend their OTC derivatives documentation to, among other things, agree on written arrangements to perform portfolio reconciliation and establish procedures for valuation dispute resolution.
- Complete an agreement with the dealer that will “top-up” or “extend” the written agreements made by counterparty relating to the Dodd-Frank swap documentation rules in the ISDA March 2013 DF Protocol to apply to the RMTs covered in the EMIR Risk Mitigation Protocol.
- Negotiate a bilateral agreement, or side-letter, with the dealer that contains the same written agreements, arrangements and procedures as those covered by the EMIR Risk Mitigation Protocol.
End-users should demonstrate compliance with the EMIR Risk Mitigation Requirements before April 30, 2014 to ensure that their trading activities with dealers established in the EU are not adversely affected by the UK FCA’s deadline.
Do the RMTs Applicable to an End-User Depend on its EMIR Counterparty Classification?
EMIR requires additional and more burdensome RMTs for financial counterparties (FCs) than for nonfinancial counterparties (NFCs) as well as for an NFC that is subject to clearing under EMIR (NFC+) than for an NFC that is not (NFC-). Given the favorable regulatory treatment for NFCs, an end-user (which is typically classified as an NFC+ or NFC-) should confirm its counterparty classification with its EU-based counterparties. One method for doing this is to adhere to the ISDA 2013 EMIR NFC Representation Protocol (the EMIR NFC Protocol). The EMIR NFC Protocol enables most end-users to make representations as to their NFC status (and whether they are subject to clearing under EMIR) and thereby avoid the more onerous RMTs applicable to FCs (or NFC+s). An end-user also can directly inform its EU-based counterparties of its status under EMIR outside of the EMIR NFC Protocol. Click on the link for our Swaps End-User Update with a summary of EMIR counterparty classifications .
A link to the UK FCA announcement regarding supervisory priorities arising from EMIR is available here.
Please contact one of the authors or your regular McGuireWoods lawyer if you have any questions regarding EMIR or other OTC derivatives matters.