On 1 October 2015, the Monetary Authority of Singapore (“MAS”) issued a Consultation Paper on Margin Requirements for Non-Centrally Cleared Derivatives (“Consultation Paper”). This is part of MAS’ efforts to implement the margin requirements for uncleared derivatives which were developed by the Working Group on Margin Requirements and set out in its March 2015 report on Margin Requirements for Non-Centrally Cleared Derivatives (“WGMR Report”). This Update looks primarily at the proposals relating to participants and OTC derivative contracts intended to be subject to the proposed mandatory margining requirements, the proposed scope of such requirements, as well as various factors considered by MAS relating to eligible collateral and margin calculation methodologies. The deadline for public feedback on the Consultation Paper is 1 November 2015. We would be pleased to assist with any feedback that our clients would like to make to MAS on the policy and regulatory proposals in the Consultation Paper. Scope of proposed margin requirements MAS is proposing to adopt a phased-in approach as regards the implementation of the margin requirements, in order to give affected entities time to operationalise the proposed margin requirements. For a start, it is proposed that the margin requirements will apply as follows: In-Scope entities The following entities (“MAS Covered Entities”) that are conducting regulated activities under the Securities and Futures Act (Cap. 289 of Singapore) (“SFA”): (a) banks licensed under the Banking Act (Cap. 19 of Singapore) (“Banking Act”); (b) merchant banks approved as financial institutions under Section 28 of the MAS Act (Cap. 186 of Singapore) (“MAS Act”); and (c) other licensed financial institutions (“Other Financial Institutions”) - this would include entities licensed under the Finance Companies Act (Cap. 108 of Singapore), Insurance Act (Cap. 142 of Singapore), SFA and Trust Companies Act (Cap. 336 of Singapore). Fund managers are in-scope too if they are legal counterparties to the transaction. Note: MAS has not indicated the proposed implementation commencement dates and exemption thresholds for LEGISWATCH OCTOBER 2015 2 © WongPartnership LLP This update is intended for your general information only. It is not intended to be nor should it be regarded as legal advice. WongPartnership LLP (UEN: T08LL0003B) is a limited liability law partnership registered in Singapore under the Limited Liability Partnerships Act (Chapter 163A). Other Financial Institutions. Other proposals relating to in-scope entities (1) a limited exemption for Other Financial Institutions, should the exposure of their uncleared derivative transactions booked in Singapore fall below a certain threshold; and (2) to require investment funds domiciled in Singapore to comply with the proposed margin requirements, if these funds have exposure in uncleared derivatives in excess of a certain exemption threshold. In-Scope products All OTC derivative contracts that are not centrally cleared by a qualifying central counterparty, other than physically-settled foreign-exchange forwards and swaps. Conditions to be met for initial margin (“IM”) and variation margin (“VM”) requirements to apply Subject to the implementation schedule and exemption thresholds applicable to MAS Covered Entities as set out in Annex E to the Consultation Paper, the IM and VM requirements, on a collect-only basis, will be triggered when all of the following conditions are met: (a) the MAS Covered Entity is a legal counterparty1 to the transaction; (b) the transaction is booked in Singapore; and (c) the transaction is entered into with a counterparty which is either (i) an MAS Covered Entity; or (ii) an overseas regulated financial firm. Other proposals relating to application of IM/VM requirements (1) to apply an exemption threshold when an MAS Covered Entity transacts with overseas regulated financial firms from jurisdictions with different implementation schedules for margin requirements or have unclear netting laws; (2) to deem an MAS Covered Entity to have complied with MAS’ margin requirements when it has, under certain circumstances, complied with the margin requirements of a relevant foreign jurisdiction; (3) an MAS Covered Entity may apply to exempt intragroup transactions from the IM/VM requirements, subject to the condition that the MAS Covered Entity 1 A legal counterparty is an entity who is a signatory to the ISDA master agreement and the collateral service agreement of the transaction. LEGISWATCH OCTOBER 2015 3 © WongPartnership LLP This update is intended for your general information only. It is not intended to be nor should it be regarded as legal advice. WongPartnership LLP (UEN: T08LL0003B) is a limited liability law partnership registered in Singapore under the Limited Liability Partnerships Act (Chapter 163A). comes under group-wide supervision by MAS or regulators in other jurisdictions; and (4) IM/VM requirements need not apply to uncleared derivatives involving sovereign bodies, central banks, public sector entities, multilateral development banks and the Bank for International Settlements as counterparties. Implementation Schedule The implementation schedule which MAS has proposed for banks licensed under the Banking Act and merchant banks approved under Section 28 of the MAS Act, who conduct regulated activities under the SFA, is set out in Annex E to the Consultation Paper. MAS proposes to provide a 6- month transition period from the respective IM or VM commencement dates to provide sufficient time for these MAS Covered Entities to be operationally ready for a smooth implementation of the requirements. Margin calculation and methodologies The following is a table summary of some of the elements and policies relating to margin calculations and methodologies under consideration by MAS. Initial margin Variation margin Rationale for margin exchange/collection The background discussion in paragraph 3(d) of the WGMR Report states that IM is meant to protect a transacting party from the potential future exposure that could arise from future changes in the mark-tomarket value of the uncleared derivative contract during the time it takes to close out and replace the position in the event that the counterparty defaults. Accordingly, the amount of IM reflects the size of the potential future exposure. The background discussion in paragraph 3(c) of the WGMR Report states that VM is meant to protect a transacting party from the current exposure that has already been incurred by the transacting party from changes in the mark-tomarket value of the uncleared derivative contract after the transaction has been executed. Accordingly, the amount of VM reflects the size of this current exposure. LEGISWATCH OCTOBER 2015 4 © WongPartnership LLP This update is intended for your general information only. It is not intended to be nor should it be regarded as legal advice. WongPartnership LLP (UEN: T08LL0003B) is a limited liability law partnership registered in Singapore under the Limited Liability Partnerships Act (Chapter 163A). Calculation methodology An MAS Covered Entity may opt for IM to be calculated by reference to either: (i) a quantitative portfolio margin model2; or (ii) a standardised IM schedule prescribed by MAS, as set out in Annex B to the Consultation Paper. While an MAS Covered Entity need not restrict itself to the approach in either (i) or (ii) for the entirety of its derivative activities, the choice of either approach should be made consistently over time for all transactions within the same well-defined asset class. Uncleared derivatives for which an MAS Covered Entity faces zero counterparty risk require no IM to be exchanged/collected and may be excluded from the IM calculation. VM shall be calculated based on an MAS Covered Entity’s mark-to-market exposure of uncleared derivatives. Frequency of calculation and exchange/collection IM shall be exchanged/collected at the outset of a transaction, and thereafter on a routine and consistent basis upon changes in the calculated potential future exposures. At a minimum, IM shall be recalculated and exchanged/collected when: VM obligations shall be calculated at least on a daily basis. The full amount of VM shall be exchanged/collected from the counterparty within two business days following the execution of a new uncleared derivative contract.3 2 Please refer to paragraphs 5.5 to 5.7 of the Consultation Paper for more information on the requirements of the quantitative portfolio margin model. 3 The Consultation Paper did not expressly state when VM needs to be exchanged/collected following any recalculation of VM obligations. LEGISWATCH OCTOBER 2015 5 © WongPartnership LLP This update is intended for your general information only. It is not intended to be nor should it be regarded as legal advice. WongPartnership LLP (UEN: T08LL0003B) is a limited liability law partnership registered in Singapore under the Limited Liability Partnerships Act (Chapter 163A). (i) a new contract is executed; (ii) an existing contract expires; (iii) the IM model is recalibrated due to changes in market conditions; or (iv) no IM recalculation has been performed in the last 10 days. IM shall be exchanged/collected from the counterparty within two business days following any recalculation of IM obligations. Minimum threshold Exchange/collection of IM is only required if the cumulative IM exposure from the counterparty exceeds S$80million, calculated based on all uncleared derivatives between the two counterparties’ respective consolidated groups. Zero threshold. Subject to the proposed de minimis minimum transfer amount, the full amount of VM must be exchanged/collected. De minimis minimum transfer amount Minimum transfer amount for all margin transfers shall not be higher than S$800,000. Gross vs net basis IM shall be calculated and exchanged/collected on a gross basis (i.e., no netting of IM payments between the counterparties). VM shall be calculated and exchanged/collected on an aggregate net basis across all uncleared derivatives that are executed under a single, legally enforceable netting agreement. LEGISWATCH OCTOBER 2015 6 © WongPartnership LLP This update is intended for your general information only. It is not intended to be nor should it be regarded as legal advice. WongPartnership LLP (UEN: T08LL0003B) is a limited liability law partnership registered in Singapore under the Limited Liability Partnerships Act (Chapter 163A). Dispute resolution An MAS Covered Entity is required to have rigorous and robust dispute resolution procedures in place with its counterparties before the onset of a transaction. If a margin dispute arises, the non-disputed amount shall be exchanged/collected first, while all necessary and appropriate efforts, including timely initiation of dispute resolution protocols, should be taken to resolve the dispute, and to exchange/collect the remaining amount of IM/VM in a timely fashion. Collateral The following are eligible collateral which may be used to meet IM and VM requirements: (a) cash; (b) gold; (c) debt securities (rated AAA to BB- for central government or central bank issuers, AAA to BBB- for other issuers), other than securities issued by the MAS Covered Entity or its related corporations; and (d) equity securities in a main index of a securities exchange in Singapore or a recognised Group A exchange (i.e., securities exchanges in Australia, Austria, Belgium, Canada, France, Germany, Hong Kong, Italy, Japan, Malaysia (except Labuan), Netherlands, New Zealand, South Korea, Spain, Sweden, Switzerland, Taiwan, Thailand, United Kingdom, and United States), other than securities issued by the MAS Covered Entity or its related corporations. Haircuts MAS proposes to align the standardised schedule-based haircuts for permitted eligible collateral for IM and VM to the standard supervisory haircuts set out for eligible financial collateral recognised under the financial collateral comprehensive approach in MAS’ capital framework for locally incorporated banks. In addition, MAS is also proposing to set a 8% FX mismatch haircut on all eligible collateral, as was prescribed for under the WGMR Report. The schedule of standardised schedule-based haircuts is set out in Annex C to the Consultation Paper. Treatment of collateral In order to ensure that the collateral is protected against the insolvency risk of the collateral collector, MAS Covered Entities will be required to safe-keep the IM collected from counterparties in such a manner as to ensure that (a) the IM collected is immediately available to the collecting party in the event of the posting party’s default; and (b) the IM collected must be subject to legally enforceable arrangements that protect the posting party to the extent possible under applicable law in the event that the collecting party enters bankruptcy. LEGISWATCH OCTOBER 2015 7 © WongPartnership LLP This update is intended for your general information only. It is not intended to be nor should it be regarded as legal advice. WongPartnership LLP (UEN: T08LL0003B) is a limited liability law partnership registered in Singapore under the Limited Liability Partnerships Act (Chapter 163A). The collateral arrangements used need to be legally enforceable and reviewed periodically with updated legal opinions to confirm that they continue to meet with these requirements. As regards the re-hypothecation, re-pledging, or re-use of collateral, MAS is proposing that non-cash IM may only be re-hypothecated to a third party in accordance with the list of conditions set out in Annex D to the Consultation Paper. Cash and non-cash collateral collected as VM may be re-hypothecated without restrictions. If you would like information on this or any other area of law, you may wish to contact the partner at WongPartnership that you normally deal with or any of the following partners: Rosabel Ng Head – Derivatives & Structured Products Practice DID: +65 6416 8269 Email: rosabel.ng @wongpartnership.com Click here to see Rosabel’s CV. Tian Sion Yoong Partner DID: +65 6416 2488 Email: sionyoong.tian@ wongpartnership.com Click here to see Sion Yoong’s CV. LEGISWATCH OCTOBER 2015 8 © WongPartnership LLP This update is intended for your general information only. It is not intended to be nor should it be regarded as legal advice. WongPartnership LLP (UEN: T08LL0003B) is a limited liability law partnership registered in Singapore under the Limited Liability Partnerships Act (Chapter 163A). WONGPARTNERSHIP OFFICES SINGAPORE WongPartnership LLP 12 Marina Boulevard Level 28 Marina Bay Financial Centre Tower 3 Singapore 018982 Tel: +65 6416 8000 Fax: +65 6532 5711/5722 CHINA WongPartnership LLP Beijing Representative Office Unit 3111 China World Office 2 1 Jianguomenwai Avenue, Chaoyang District Beijing 100004, PRC Tel: +86 10 6505 6900 Fax: +86 10 6505 2562 WongPartnership LLP Shanghai Representative Office Unit 1015 Corporate Avenue 1 222 Hubin Road Shanghai 200021, PRC Tel: +86 21 6340 3131 Fax: +86 21 6340 3315 INDONESIA Makes & Partners Law Firm (an associate firm) Menara Batavia, 7th Floor Jl. KH. 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