To which OTC derivatives does the clearing obligation apply?
The clearing obligation only applies to standardised classes of OTC derivative contracts that have been specified as being subject to this obligation. These contracts must be concluded between parties specified in EMIR, e.g. between two financial counterparties or between a financial counterparty and a specified non-financial counterparty. In determining which classes of OTC derivatives must be cleared centrally, ESMA takes into account the extent of standardisation, the volume and liquidity in the market as well as the availability of fair, reliable and generally accepted information on pricing.
What is the procedure for determining the classes that are subject to the clearing obligation?
Article 5(2) of EMIR specifies the procedures to be applied for determining the classes of OTC derivatives that are subject to the clearing obligation. The clearing obligation procedure is as follows.
There must be a CCP willing and authorised to clear the specific class of OTC derivatives. CCPs must be authorised by their national competent authorities. In the Netherlands, this is DNB. Its Oversight Department processes the application for authorisation in consultation with the AFM.
- The European Commission approves the RTS (drafted by ESMA) relating to the classes of OTC derivatives that are subject to the clearing obligation.
- ESMA enters the designated classes of OTC derivatives into a public register (Article 6 of EMIR).
It also checks whether there are any classes of OTC derivatives that should be subject to the clearing obligation and reports these to the European Commission. The European Commission is authorised to adopt the RTS relating to the classes of OTC derivatives that are subject to the clearing obligation.
ESMA is responsible for setting up, maintaining and updating a public register that allows the correct and unambiguous registration of the classes of OTC derivatives that are subject to the clearing obligation.
The first derivatives that are to be centrally cleared are specific classes of interest rate derivatives in the G4 currencies. The regulations governing this mandatory clearing (Commission Delegated Regulation (EU) 2015/2205) were published on 1 December 2015. The clearing obligation for these interest rate derivatives will be implemented in stages, depending on the status of the parties involved. There are four categories of parties; the first of which (clearing members) will be subjected to the clearing obligation from 21 June 2016 onwards. The fourth category, non-financial counterparties, will be the last to come under the clearing obligation, from 21 December 2018 onwards.
Intragroup exemption from the central clearing obligation
OTC derivative contracts that can be qualified as intragroup transactions are not subjected to the clearing obligation (Article 4(2) of EMIR) under specified circumstances. Article 3 of EMIR specifies which contracts qualify as intragroup transactions; it distinguishes between intragroup transactions with non-financial counterparties and intragroup transactions with financial counterparties. One of the requirements for OTC derivative contracts concluded between financial counterparties (e.g. banks or insurance companies) and counterparties belonging to the same group (as laid down in EMIR) is that the latter must also be a financial counterparty, a financial holding company, a financial institution or a holding company performing ancillary services to which appropriate prudential requirements apply. Both counterparties must also be included in the same consolidation on a full basis (see Article 3(3) of EMIR for an explanation of the term consolidation). The exemption to the clearing obligation for intragroup transactions only applies if the competent authorities have been notified accordingly in writing and in good time. See Article 4(2) under a and b of EMIR for more information (including information about timelines). You will find the application form for exemption from the clearing obligation for intragroup transactions in the download section on this page. Please also refer to the ESMA Q&As and the Commission Delegated Regulation (EU) 2015/2205, which lays down the first clearing obligations.
OTC derivatives that are exempt from the clearing obligation under the intragroup exemption must still apply the risk-mitigation techniques for non-centrally cleared OTC derivative contracts (see Article 4(2) of EMIR). Under specified conditions, the requirement to apply risk-mitigation techniques also provides for an exemption for intragroup transactions with respect to the exchange of collateral (see Article 11(3) and (5) and following).
Exemption for OTC derivative contracts on account of pension schemes
Preamble 26 to EMIR mentions that entities administering pension schemes with the aim of providing pension benefits are typically inclined to hold only a minimum amount of liquid assets, in order to maximise efficiency and returns for their policy holders. To prevent the margin requirements for CCPs from posing a risk to the pension income of future beneficiaries, the clearing obligation should not apply to pension schemes until the CCPs have developed appropriate technical solutions to exchange other collateral than cash by way of variation margin.
As a transitional provision, Article 89 of EMIR stipulates that until 16 August 2016 the clearing obligation does not apply to OTC derivative contracts for which it can be established objectively that they mitigate the investment risks directly associated with financial solvency of pension schemes as described in Article 2(10) of EMIR. As CCPs and pension funds have to date not found fitting solutions, this exemption has been extended to 16 August 2017, after which it can again be extended for a maximum period of one year. Based on the definition of a pension scheme in Article 2(10) of EMIR, institutions for occupational retirement provisions such as pension funds and the legal entities that have been established for the investment activities of these institutions and that act solely in the interests of these institutions, as well as premium pension institutions may also use this exemption. This means that in principle, OTC derivative contracts between banks and pension funds or premium pension institutions does not have to be cleared through a CCP.
Article 89 of EMIR stipulates that the OTC derivative contracts qualifying for the exemption must still apply the risk-mitigation techniques applicable to non-centrally cleared OTC derivative contracts (see Article 11 of EMIR).