Banks could unwind non-compliant derivatives contracts

Banks may be forced to cancel trades with clients executed after 1 March if their collateral agreements had not been re-negotiated. 

Banks could be forced to unwind thousands of non-cleared derivatives trades with clients that have not been amended to meet the variation margin rules, Wall Street’s derivatives trading body has warned.

A ‘soft’ implementation of new collateral rules for bilaterally traded derivatives went live on 1 March in Europe. But for the US this was pushed back six months to September to allow added time for firms to amend their collateral agreements, known as credit support annex (CSAs), and become compliant.

While the majority of firms have amended their contracts with counterparties, those trades that were executed after 1 March and were not amended could be unwound, warned Scott O’Malia, CEO of the International Derivatives and Swaps Association (ISDA).

“The industry is working on the basis that those trades will need to be unwound if they are not subject to regulatory compliant variation margin CSAs by September 1,” said O’Malia.

“Given firms lack a contractual mechanism to unilaterally force their counterparties to unwind, it will take time to negotiate the terminations – but firms want to be able to demonstrate they’ve been working to tackle the issue in advance.”

The September variation margin rules are set to impact thousands of credit, inflation and FX derivatives.

However, the EU will expand the variation margin regime to physically-settled FX forwards from 3 January, sparking another wave of CSA negotiations between banks and their clients.

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