September 15 was a significant date in the compliance calendar for the European Market Infrastructure Regulation (or EMIR, as it is known), the European legal regime for the regulation of the OTC derivativesmarket. It was the date on which parties to OTC derivatives were required to have in place portfolio reconciliation and dispute resolution procedures – so that the key details of OTC derivative transactions could be cross-checked by both parties to ensure that there was no difference in understanding between themand that grounds for disputes could be identified and a resolution approach adopted. At the outset, we shouldmake clear that EMIR potentially applies to parties outside Europe who have entered into derivatives contracts with European entities.
Given the deadline, derivatives dealers and ISDA were both pro-active and constructive in helping users of derivatives to comply, though different dealers took different approaches – some laying down processes that could be followed and somemerely “encouraging” that steps be taken. ISDA prepared a protocol – the ISDA 2013 Portfolio Reconciliation, Dispute Resolution of Disclosure Protocol – which provided a user-friendly framework to facilitating compliance (the “Reconciliation Protocol”).
It is important for entities using OTC derivatives to be clear on the fact that while the Reconciliation Protocol is useful, it is not, in itself, a way of discharging the obligations imposed under EMIR in relation to the relevant subjectmatter. In order to do this, parties to OTC derivativesmust actually have in place procedures for undertaking portfolio reconciliation and dispute resolution andmust comply with those procedures. Indeed, it is arguable that entering into the Reconciliation Protocol is an important step in the process ofmonitoring andmitigating the risks of being a user of OTC derivatives, not the end. In terms of a regulatory goal, EMIR aims to promote a risk-sensitivemindset and risk-sensitive behaviours among users of OTC derivatives.
For those who have not complied with the September 15 deadline, thismust be done as soon as possible (asmust other compliance requirements imposed by EMIR which are also in effect, such as the requirement to have procedures in place to confirmtransactions in a timelymanner). While no assurances can be given about this, the regulatory response to delayed compliance is likely to be better than to noncompliance. Moreover, those who are out of compliance with EMIRmay find it difficult or not possible to trade derivatives with their dealers – our advice has been that they should not try to do so until they are in compliance.
September 15 was a significant deadline. It is not the only one, however. EMIR also imposes a reporting obligation, which is expected to become effective in amatter ofmonths. This too will require procedures to be put in place and followed to achievemeaningful compliance. The centre piece of EMIR – the deciding obligation – will also require compliance in due course.
It is important to recognise the purpose for which EMIR exists. It is, in effect, to provide a regulatorily driven riskmanagement framework for the OTC derivativesmarket, aiming to protect parties to OTC derivatives as well as themarket as a whole. In our view, while EMIR undoubtedly imposes a compliance burden on users of OTC derivates, it can (and should) be viewedmore positively: as a catalyst for enabling users of OTC derivatives to adopt amore structured approach in terms of understanding andmanaging their use of OTC derivatives and so, hopefully,mitigating the risks inherent in using OTC derivatives. As such, the governance benefits of EMIR compliance should be recognized.