EMIR 2020-21 Update: REFIT, Benchmarks, Brexit, and Beyond
EMIR 2020-21 Update: REFIT, Benchmarks, Brexit, and Beyond
A recap of the key updates to the regime established by Regulation (EU) No 648/2012 of the European Parliament and of the Council of July 4, 2012 on OTC derivatives, central counterparties, and trade repositories (the European Market Infrastructure Regulation, EMIR) since our 2019 Regulatory Update.
Regulation (EU) No 2019/834 of the European Parliament and of the Council of May 20, 2019 (“EMIR Refit,” also known as “EMIR II”) amended many provisions of EMIR in order to streamline and reduce the burden of EMIR on derivatives counterparties. Key changes that arose as a result of EMIR Refit include:
Regulation (EU) No 2019/2099 of the European Parliament and of the Council of October 23, 2019 (“EMIR 2.2”) came into effect on January 1, 2020, and involved the categorization of all non-EU central counterparties (CCPs) into one of two categories, depending on ESMA’s determination of the level of a CCP’s systemic importance to the EU. CCPs in the non-systemically important category, Tier 1, continue to operate as usual. However, CCPs in the systemically important category, Tier 2, are now subject to stricter supervision requirements (including obligations to comply with requirements set by EU central banks). Additionally, as a last resort, if a non-EU Tier 2 CCP cannot be adequately supervised, ESMA and the Commission may require that it establish an entity in the EU and seek authorization from the relevant national competent authority to continue providing its services. Such a requirement could cause major changes to the business model of non-EU CCPs, particularly those currently established in the UK and U.S.
Commission Delegated Regulation (EU) 2021/236 of December 21, 2020 (the “Margin RTS Amending Regulation”) was published in the Official Journal on February 17, 2021, amending the margin regulatory technical standards laid out in Commission Delegated Regulation (EU) No 2016/2251 of October 4, 2016 (the “Margin RTS”). The key points arising from this are set out below.
On September 1, 2019, phase four of the initial margin (IM) rules for NCDs under the Margin RTS was implemented. This phase obliged counterparties to NCDs to exchange IM (subject to any available exemptions) where both counterparties (or their groups) each had an average aggregate notional amount (AANA) of NCDs above EUR 750billion, calculated across the last business day of March, April, and May in the year of implementation.
Under the Margin RTS, phase five, with an AANA threshold of EUR 8 billion, was due to come into effect on September 1, 2020. However, the threshold was increased to EUR 50 billion following industry pressure over the sheer number of groups that would be required to comply at once. Further, in April 2020, due to the coronavirus pandemic, the Basel Committee on Banking Supervision and the International Organization of Securities Commissions recommended that implementation of the final two phases be delayed a year. The Margin RTS Amending Regulation provides for a formal implementation of these recommendations, such that regulatory enforcement of phase five will be delayed until September 1, 2021. Phase six, using the original phase five AANA threshold of EUR 8 billion, will not be implemented until September 1, 2022.
The Margin RTS Amending Regulation also (i) extends the duration of the exemption from collecting variation margin (VM) on physically settled FX forwards (which technically expired in 2018), and (ii) broadens this exemption to also cover physically settled FX swaps, in each case where one of the counterparties is not a MiFiD “credit institution,” “investment firm,” or third-country equivalent.
The Margin RTS Amending Regulation also contains an extension to the temporary exemption to collect IM and VM for (i) single-stock equity options and (ii) index options, lasting until January 4, 2024.
The Margin RTS Amending Regulation contains two key measures to mitigate the impact of Brexit. The first is the temporary expansion of the intragroup margin exemption to cover transactions between EU and third-country counterparties, lasting until June 30, 2022. The second is a “grandfathering” of margin requirements, meaning that where an NCD contract was entered into before the earlier of when the relevant margin requirements or Margin RTS Amending Regulation applied, the contract can be novated solely to replace a UK counterparty with an EU entity without the need to update legacy risk-management procedures. This measure is also time limited, meaning counterparties looking to take advantage of this provision can only novate between (i) January 1, 2021 and (ii) the later of (a) the date on which the relevant margin requirements apply and (b) January 1, 2022.
Commission Delegated Regulation (EU) 2021/237 of December 21, 2020 (the “Clearing RTS Amending Regulation”) was also published in the Official Journal on February 17, 2021, amending the technical standards concerning clearing of OTC derivatives in Commission Delegated Regulation (EU) Nos 2015/2205, 2016/592, and 2016/1178.
The Clearing RTS Amending Regulation contains two key amendments, mirroring the Brexit mitigations set out by the Margin RTS Amending Regulation above. The first is to extend the intragroup clearing exemption to cover transactions between EU and third-country entities until June 30, 2022. The second is to provide for a 12-month period of grandfathering of any clearing obligation exemption for legacy trades entered into before the introduction of this amendment where a contract is novated solely to replace a UK counterparty with an EU counterparty.
As a result of the Benchmark Regulation Review, EMIR was further amended by Regulation 2021/168 of the European Parliament and of the Council of February 10, 2021. Similar to the Margin RTS Amending Regulation and Clearing RTS Amending Regulation amendments above, this amendment provides that NCDs entered into or novated before the date a clearing or margining obligation applied to them may be amended to replace a benchmark or introduce fallbacks without becoming subject to further margining or clearing procedures.
As of 11 p.m. on December 31, 2020, the Brexit implementation period concluded, and the EMIR regime ceased to apply directly in the UK. Instead, EMIR and related legislation were transposed into national law, as part of “retained EU law” under the European Union (Withdrawal) Act 2018 as amended. Amendments necessitated by this onshoring process were mostly made by:
Associated technical standards were implemented as binding technical standards of the Bank of England, PRA, and FCA.
The net effect of this is that there is now a domestic form of the EMIR regime (“UK EMIR”), which is largely identical to that under EU law as in force at the end of the implementation period. However, the following key points should be noted as a result of the Brexit process: