In a special opinion piece, Neil Vernon, the chief technology officer for Gresham Technologies, focuses on the Uncleared Margin Rules (UMR) and their ramifications beyond increasing workloads for reconciliation and securities operations.
Neil Vernon
Is it possible that the global collateral and margining reforms known as the Uncleared Margin Rules (UMR) could be viewed as having ramifications beyond increasing workloads for reconciliation and securities operations to meet the compliance challenge?
Many medium-to-small-sized firms may be asking that question as they work their way through the many requirements of UMR Phases 5 and 6. It’s not an unreasonable question.
The UMR reforms are being driven by the Basel Committee on Banking Supervision (BCBS) and the International Organization of Securities Commissions (IOSCO), and are intended to make over-the-counter (OTC) markets safer. The Basel Committee oversees the regulation of banks, serves as a forum for supervisory matters, and reports to the Group of Central Bank Governors and Heads of Supervision. IOSCO is an international policy forum for securities regulators.
As firms that trade in OTC derivatives markets advance toward UMR compliance, the reform effort could serve as an opportunity for them to replace and automate problematic, manual processes. While this spinoff benefit from UMR may not have been anticipated, it could be a very welcome windfall.
Yet before firms can count their operational windfalls, they should be prudent and come into compliance as soon as they can.
Review, Revise & Update
Of course, full UMR compliance brings with it attendant challenges for reconciliation and other securities operations. Meeting UMR obligations will inevitably require firms to formulate a review and reconsideration of data reconciliation and exception management regimes especially if those systems fail to deliver high-quality, usable data.
Firms could also use the UMR push to replace outdated infrastructures and make the case for the final elimination of manual processes.
It’s likely that the push for UMR compliance coupled with other regulatory overhauls will compel firms to review, revise, and update their incumbent IT infrastructures. They would also have the opportunity to move key parts of their computing environment to the cloud. Once there, they could take advantage of many disruptive technologies that can help firms leapfrog over once-baffling problems.
At the same time, in-scope firms must focus on re-working contracts and business relationships and integrated systems with counterparties, prime brokers, custodians, service providers, IT systems vendors, consultants, and others to sort out the maze of interconnected margining and collateral transfer operations. In addition, they must be certain that they meet their obligations on time.
Temporary Relief & Getting Ready
The good news is that regulators have been responding to industry concerns and have extended complex deadline schedules.
The temporary relief has eased some burdens as firms grapple with the logistical problems caused by pandemic-induced lockdowns and remote staffs. They are also facing multiple, conflicting deadlines for other regulatory efforts. The push for regulatory reform in the financial services industry did not end when global financial markets recovered from the Great Recession. Authorities have been maintaining a flow of new regulatory overhauls that continue to raise the compliance bar. The constant flow also subjects firms to endless scrutiny, tough restrictions, and, in some cases, fines and penalties that sting.
Firms in scope for UMR want to avoid the sting of regulators. So, before firms can do business and report their activity under the UMR regulations, they will need to reconcile the relevant data that flows among key transactions, operations, front, middle- and back-offices, and enterprise-wide systems. Bad data will corrupt internal UMR operations and external compliance, and firms will pay a heavy price for failed reconciliations.
So, there is a long to-do list of issues that will have to be resolved via the march to UMR compliance.
The first step is for a firm to calculate its aggregate notional amount (AANA), which helps it sort out initial margin (IM) levels, and where they fall within the UMR phases. Firms in scope for Phase 5 face a September 2021 deadline and firms in Phase 6 face a September 2022 deadline.
A firm must also:
- Definitively clarify whether it (or some of its entities) is truly in-scope for the UMR phases;
- Calculate IM via ISDA’s Standard Initial Margin Model (SIMM) or via a regulatory grid;
- Define eligible collateral and then find it;
- Review all custodial arrangements;
- Revise operations and IT infrastructures as necessary;
- Review know your customer (KYC) policies for new and current clients;
- Set up a form of UMR governance;
- And, ultimately, decide which IT and manual systems must give way to the new UMR regime.
As firms finalize and then act upon their strategies for UMR compliance, they will be able to apply what their lessons learned to other problems such as sorting out the array of Net Asset Value (NAV) calculations that they will need for their multiple assets.
More importantly, though, by working to keep the regulators happy, firms will also be making internal operations, compliance, and risk teams happy too.
Ultimately, to avoid regulators knocking on their doors, firms must show that they have the correct UMR reporting processes in place that are based upon data that is timely, accurate, and complete. Clean data will pave the way toward seamless compliance.
(Editor’s note: This is sponsored content.)
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