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13th April 2022 | Insights

Last act of margin roll-out set to be most complicated yet

As the 6th and final phase of Uncleared Margin Rules (UMR) approaches, many hedge funds are still uncertain about  whether they will fall into scope for Initial Margin (IM) rules for uncleared derivatives.

Under Phase 6 of UMR, firms with bilateral derivatives positions exceeding €/$8bn of notional exposure (or jurisdictional equivalent), will fall into scope of the rules.

Acuiti’s recent study, conducted in partnership with Cassini Systems, found around a fifth of the hedge funds surveyed were unclear on whether they would fall into scope.

The funds surveyed use derivatives as a core part of their trading strategies so run the risk of major disruption to their business if they fall foul of the rules.

Much of the uncertainty emanates from how much funds’ notional exposure will move around the threshold for posting margin. In a world where large volatility events are becoming more common, the risk of a large derivatives position quickly surging above the threshold has heightened.

The operational lift needed to post margin under the new regime is significant. And with Phase 6 due to kick in this September 1st 2022, the window to be ready is narrowing fast.

With the right management and infrastructure, firms may be able to avoid Phase 6. This will involve shifting to listed derivatives where possible, managing counterparty exposure, and running pre-trade analytics to forecast wherein the portfolio breaches might occur.

These measures will require some level of an overhaul. But this will still pale in comparison compared to the burden of filling out new legal agreements with custodians and counterparties and overhauling the way that collateral is posted if the threshold is breached.

There are early signs that the industry is reacting positively to this uncertainty. The study found that hedge funds are taking steps to improve margin management and how they think about collateral.

A large majority, 78%, said that they now take margin into account when considering where to trade (however, most said they only did this some of the time). The study found a significant number of firms were working to improve margin optimisation and that 30% were now able to take a view on a position’s margin implications at pre-trade.

But the research shows that while funds are becoming more conscious of the importance of margin, most are still some way from achieving the best operational set-up for processing it. Only 13% of survey respondents aggregated and analysed margin requirements at an intra-day frequency.

Many are also running into confusion about what collateral to post, and have room for improvement in deciding the best collateral to post.

Despite the short time frame before the rules kick in, this increasing awareness of the challenge suggests that with the right infrastructure and knowledge, funds can still hit the deadline.

To find out more, download the full report here