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CFTC Issues No-Action Position on Variation Margin Rules that Provides Swap Dealers with a Grace Period for the Completion of Documentation and the Implementation of Operational Processes

On February 13, 2017, the staff of the Division of Swap Dealer and Intermediary Oversight (“DSIO”) of the CFTC issued CFTC Letter No. 17-11 (the “Letter”) providing a time-limited no-action position with respect to swap dealers (“SDs”) who fail to collect and/or post variation margin in connection with uncleared swaps.

Acting Chair Christopher Giancarlo commented that such relief was necessary because “the facts on the ground cannot be ignored that as much as ninety percent of those end-users are not ready to meet the new requirements despite their best efforts to do so.” Acting Chair Giancarlo continued, stating “[t]his action by the CFTC does not change the scheduled time of arrival for the agreed margin implementation. It just foams the runway to ensure a safe landing.” (statement here)

Under CFTC Regulation 23.153, SDs and major swap participants (“MSPs”) that are not regulated by a Prudential Regulator are required to collect and post variation margin with respect to uncleared swaps with “swap entities” and “financial end users”. Many market participants have found the compliance process complicated and difficult, since such entities typically have a large number of credit support documents to amend to bring into comply with the variation margin requirements (defined in the Letter as the “March 1 VM Requirements”).

As a result of requests for transitional relief from numerous market participants, the CFTC issued a limited no-action position that DSIO will not recommend an enforcement action against an SD that does not comply with the March 1 VM Requirements prior to September 1, 2017, subject to the following conditions:

1. The SD does not comply with the March 1 VM Requirements with respect to a particular counterparty solely because it has not, despite good faith efforts, completed necessary credit support documentation (including custodial segregation documentation, if any) with such counterparty or, acting in good faith, requires additional time to implement operational processes to settle variation margin in accordance with the March 1 VM Requirements with such counterparty;

2. The SD uses its best efforts to continue to implement compliance with the March 1 VM Requirements without delay with each counterparty following March 1, 2017;

3. To the extent the SD has existing variation margin arrangements with a counterparty, it must continue to post and collect variation margin with such counterparty in accordance with such arrangements until such time as the SD is able to comply with the March 1 VM Requirements with respect to that counterparty; and

4. No later than September 1, 2017, the SD complies with the March 1 VM Requirements with respect to all swaps to which the March 1 VM Requirements are applicable entered on or after March 1, 2017.

Importantly, DSIO staff has stressed that the Letter does not “postpone” the compliance date, noting in the companion Q&A that it “simply affords market participants with a grace period to come into compliance.” In a similar vein, the Letter states that “SDs are expected to make continual, consistent, and quantifiable progress toward compliance with the March 1 VM Requirements with all counterparties on a rolling basis during the no-action period” and that the DSIO would be monitoring the progress of SDs relying on the Letter.

While this letter provides time for SDs to comply with the CFTC’s rules on margin, as of the date of this publication, the March 1, 2017 compliance date for entities subject to the Prudential Regulators’ rules on variation margin remains in place and cross-border coordination remains unclear.

© 2017 Covington & Burling LLP


About this Author

James Kwok, Covington Burling, Corporate Lawyer, Investment Banking

James Kwok is an associate in the Corporate Practice Group, resident in the New York office. In 2013 and 2014, he was seconded to the legal department of a major investment bank where he acted as internal counsel on capital markets, financial advisory and private funds advisory matters. He also has passed all three levels of the Chartered Financial Analyst exams.     

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Stephen M. Humenik, Futures and Derivatives Attorney, Covington Burling law firm
Of Counsel

Stephen Humenik leads the firm’s futures and derivatives practice.  He has extensive experience on regulatory and enforcement matters involving the U.S. Commodity Futures Trading Commission (CFTC) and the derivatives and commodities markets.  Specifically, Mr. Humenik advises clients on regulatory and policy matters relating to the registration and compliance obligations of the Dodd-Frank Act and represents clients in CFTC enforcement investigations and proceedings.