On January 19, 2017, the Canadian Securities Administrators (CSA) published National Instrument 94-101 - Mandatory Central Counterparty Clearing of Derivatives and Companion Policy 94-101 (collectively, the Clearing Rule).

Under the Clearing Rule, certain over-the-counter (OTC) derivatives entered into by Canadian local counterparties must be submitted for clearing to a recognized or exempt clearing agency (Clearing Agency). The clearing mandate will apply when at least one party to a mandatory clearable derivative is a local counterparty and each party is either: a Clearing Agency participant; an affiliate of a Clearing Agency participant that has in excess of C$1-billion notional of outstanding OTC derivatives (excluding intragroup transactions); or a local counterparty that, together with its local counterparty affiliates, has in excess of C$500-billion notional of outstanding OTC derivatives (excluding intragroup transactions). The Clearing Rule contains exemptions for certain intragroup transactions and transactions resulting from multilateral compression exercises. In addition, the clearing mandate does not apply to transactions with certain governmental entities.

The Clearing Rule's release concludes a multi-year process for the CSA, including an initial clearing proposal published in February 2015 and a proposed national instrument published in February 2016 (see our February 2016 Blakes Bulletin: Mandatory OTC Derivatives Clearing Rules Published for Second Round of Comments).

The CSA made a number of changes in the Clearing Rule based on comments received on the earlier proposals. One significant change relates to affiliates of clearing members, which will now only be in scope for mandatory clearing where they exceed the C$1-billion notional threshold referred to above. In addition, the reporting requirements to rely on the intragroup exemption have been simplified and only require that one form be submitted for each counterparty group.

Substitute compliance is available for a limited set of transactions, as discussed below.

Subject to ministerial approvals, the Clearing Rule will come into force on April 4, 2017 and will apply immediately for clearing members. There is, however, a six-month transition period for parties that are not clearing participants.

DERIVATIVES TRANSACTIONS SUBJECT TO THE CLEARING MANDATE

The derivatives designated under the Clearing Rule for mandatory clearing (mandatory clearable derivatives) consist of a variety of single-currency interest rate swaps and forward rate agreements that are listed in Appendix A to the Clearing Rule, which is reproduced below. Additional derivatives or classes of derivatives may be designated as mandatory clearable derivatives in the future by the CSA and the provincial regulators, based on criteria established by the CSA and discussed in the Companion Policy 94-101.

The list of mandatory clearable derivatives mirrors the transactions mandated for clearing in other major jurisdictions. The CSA's decision to include CAD interest rate swaps and overnight index swaps as mandatory clearable derivatives was coordinated with the U.S. Commodity Futures Trading Commission (CFTC). The CFTC previously designated CAD interest rate swaps and overnight index swaps for mandatory clearing derivatives but has timed the effectiveness of that clearing mandate to coincide with the coming into effect of the Clearing Rule. These CAD-denominated products have not yet been designated for mandatory clearing under the European Market Infrastructure Regulation (EMIR).

A transaction subject to mandatory clearing must be submitted for clearing "as soon as practicable" and no later than the end of the day of execution of the transaction or, if the transaction is executed after the business hours of the Clearing Agency, the end of the next business day.

PARTIES SUBJECT TO THE CLEARING RULE

A transaction that is a mandatory clearable derivative will be subject to the Clearing Rule when at least one of the parties is a local counterparty in a Canadian jurisdiction and both parties meet the counterparty criteria summarized below.

Similar to the definition used in the Canadian derivatives trade reporting rules, a "local counterparty" is a person or company (other than an individual) that is: organized under the laws of, or has its head office or principal place of business in, a Canadian jurisdiction; or an affiliate of such a person or company and such person or company is responsible for all or substantially all of the liabilities of the counterparty.

The local counterparty must submit, or cause to be submitted, the mandatory clearable derivative to a Clearing Agency where one or more of the criteria below applies to each party:

  1. It is a participant (i.e., a clearing member) of a Clearing Agency and subscribes for clearing services for the applicable class of derivatives
  2. It is an affiliate of such a clearing member and has had, for any month following the entry into force of the Clearing Rule, a month-end gross notional amount under all outstanding derivatives exceeding C$1-billion, excluding derivative transactions eligible for the intragroup exemption described below (C$1-Billion Affiliate Threshold)
  3. It is a local counterparty in any Canadian jurisdiction and has had, for any month following the entry into force of the Clearing Rule, a month-end gross notional amount under all outstanding derivatives of the local counterparty and each affiliate that is a local counterparty in any Canadian jurisdiction, exceeding C$500-billion, excluding derivatives transactions eligible for the intragroup exemption described below (C$500-Billion Threshold)

Unless it is a clearing member, a local counterparty is only required to clear mandatory clearable derivatives entered into after 90 days following the end of the month in which that local counterparty first exceeds the C$1-Billion Affiliate Threshold or the C$500-Billion Threshold, as applicable.

Given that universe of in-scope counterparties under the Clearing Rule is expected to be limited, the CSA do not require that market participants exchange classification information with all of their counterparties. Rather, it is expected that a local counterparty would solicit confirmation from its counterparty where there is a reasonable basis to believe that the counterparty may be near or above any of the thresholds discussed above.

CLEARING EXEMPTIONS

The Clearing Rule provides for the following exemptions from the clearing requirement:

Intragroup Exemption: A mandatory clearable derivative between affiliated counterparties will be exempted from mandatory clearing if:

  1. The financial statements of the affiliates are prepared on a consolidated basis in accordance with specified accounting standards
  2. Both counterparties agree to rely on the intragroup exemption
  3. The transaction is subject to a centralized risk management program
  4. There is a written agreement (i.e., an ISDA Master Agreement) between the parties setting out the terms of the transaction

To rely on this exemption, a local counterparty must deliver the prescribed form to the relevant securities regulatory authority within 30 days from the date when it first relies on the exemption with a particular affiliate.

Multilateral Portfolio Compression Exemption: The requirement to clear does not apply to a mandatory clearable derivative resulting from a multilateral portfolio compression exercise where the following apply:

  1. The mandatory clearable derivative results from more than two counterparties changing or terminating and replacing existing transactions
  2. The existing derivatives do not include a transaction entered into after the date on which the derivative or class of derivatives became a mandatory clearable derivative
  3. The existing transactions were not cleared by a Clearing Agency
  4. The resulting mandatory clearable transaction is entered into by the same counterparties as the prior transactions
  5. The multilateral portfolio compression exercise is conducted by an independent third-party provider

Specified Entities: The Clearing Rule will not apply to certain mandatory clearable transactions with the following entities: governments; Crown corporations and entities wholly-owned by one or more governments, in each case where the relevant government is liable for all or substantially all its liabilities; central banks; the Bank for International Settlements; and the International Monetary Fund.

Discretionary Exemption: The applicable provincial regulators may grant a discretionary exemption to an applicant from the clearing requirements on agreed terms and conditions.

A local counterparty that relies on the intragroup exemption or the multilateral portfolio compression exemption must keep records demonstrating that the requirements to rely on the respective exemption were met. These records must be kept for seven years (eight in the case of Manitoba) after the relevant transaction expires or terminates.

SUBSTITUTED COMPLIANCE

Substitute compliance is available for a non-Canadian local counterparty that qualifies as a local counterparty solely due to the fact that an affiliated Canadian local counterparty is responsible for all or substantially all its liabilities. If the Clearing Rule applies in this limited circumstance, the local counterparty may submit the transaction for clearing in accordance with the mandatory clearing rules and regulations of the CFTC or the clearing requirements under EMIR. However, the local counterparty is still required to follow other parts of the Clearing Rule, including the record keeping requirements and the notification requirements when relying on an inter-affiliate exemption.

DISCLOSURE AND REPORTING REQUIREMENTS APPLICABLE TO CLEARING AGENCIES

Clearing Agencies currently providing clearing services are required to disclose on their website and report to the securities regulatory authorities all derivatives for which they currently provide clearing services by no later than May 4, 2017. Moreover, Clearing Agencies are required to disclose on their website and report to the securities regulatory authorities no later than the 10th day after they first provide or offer clearing services for a new derivative or new class of derivatives.

IMPLEMENTATION

The Clearing Rule requires members of Clearing Agencies to submit mandatory clearable derivatives for clearing if entered into after the Clearing Rule comes into force, which is expected to occur on April 4, 2017.

Counterparties that exceed the C$500-Billion Threshold or affiliates of clearing members that exceed the C$1-Billion Affiliate Threshold have been given a six-month transition period to set up clearing relationships before they are required to clear.

The Clearing Rule does not apply retroactively to mandatory clearable derivatives executed prior to the implementation date (i.e., there is no frontloading as existed under EMIR). However, the requirement to clear may apply to legacy transactions if there is a material amendment to the transaction or the transaction is novated.

For further information, please contact any member of our Structured Finance & Derivatives Group.

APPENDIX A

OTC Derivatives Listed for Mandatory Clearing under the Clearing Rule

Interest Rate Swaps

Type

Floating Index

Settlement Currency

Maturity

Settlement Currency Type

Optionality

Notional Type

Fixed-to-float

CDOR

CAD

28 days to 30 years

Single currency

No

Constant or variable

Fixed-to-float

LIBOR

USD

28 days to 50 years

Single currency

No

Constant or variable

Fixed-to-float

EURIBOR

EUR

28 days to 50 years

Single currency

No

Constant or variable

Fixed-to-float

LIBOR

GBP

28 days to 50 years

Single currency

No

Constant or variable

Basis

LIBOR

USD

28 days to 50 years

Single currency

No

Constant or variable

Basis

EURIBOR

EUR

28 days to 50 years

Single currency

No

Constant or variable

Basis

LIBOR

GBP

28 days to 50 years

Single currency

No

Constant or variable

Overnight index swap

CORRA

CAD

7 days to 2 years

Single currency

No

Constant or variable

Overnight index swap

FedFunds

USD

7 days to 3 years

Single currency

No

Constant or variable

Overnight index swap

EONIA

EUR

7 days to 3 years

Single currency

No

Constant or variable

Overnight index swap

SONIA

GBP

7 days to 3 years

Single currency

No

Constant or variable

Forward Rate Agreements

Type

Floating Index

Settlement Currency

Maturity

Settlement Currency Type

Optionality

Notional Type

Forward rate agreement

LIBOR

USD

3 days to 3 years

Single currency

No

Constant or variable

Forward rate agreement

EURIBOR

EUR

3 days to 3 years

Single currency

No

Constant or variable

Forward rate agreement

LIBOR

GBP

3 days to 3 years

Single currency

No

Constant or variable