Cross-Asset Archives - Page 4 of 6

2024 Outlook for Collateral Managers

Looking ahead at the calendar of global events, 2024 is shaping up to be quite a big year. Elections in more than 20 countries, not least in the UK, US & India; ongoing geopolitical tensions and war; plus on the sporting front, the return of the Olympics to Paris for first time in 100 years. With all that going on, the world of collateral management might seem a little more prosaic!

Neil Murphy, Business Manager at OSTTRA considers the key focus areas for Collateral Managers in 2024.

Regulation

Eight years since the introduction of mandatory requirements for non-cleared derivatives (Uncleared Margin Rules, or ‘UMR’), firms both big and small face continued efforts to navigate UMR impacts, particularly related to the monitoring of entities not yet in-scope and IM documentation. In addition, 2024 heralds the introduction of additional UMR requirements in new jurisdictions (including Mexico and India), bringing firms into scope not only in these countries, but also potentially impacting their counterparts around the world. To assess the impact, firms must adhere to AANA (Average Aggregated Notional Amount) calculation windows (March – May) to evaluate newly impacted entities and liaise with counterparties to understand the corresponding impact. Further, this may create an on-going requirement for new legal documentation and custody arrangements.

FINRA 4210 rules for margining of TBA trades have been repeatedly delayed since 2016, but firms finally now have a May 2024 deadline for which to prepare. And while the introduction of margin requirements on these trades may seem like just another asset class, the rules contain a unique set of characteristics, including the potential to waive margin exchange in lieu of additional capital charges.

In terms of transaction reporting, 2024 will be a crucial year marked by noteworthy changes across several jurisdictions (EU/UK EMIR Refit; CFTC Rewrite; JFSA Rewrite; ASIC/MAS updates). Given the global aspect of these changes, most OTC derivatives users will find themselves effected, and priority should be given to understanding new requirements and necessary changes to both reporting & validation. Key changes require reporting of new fields (taking the number to more than 200!); additional standardisation via adoption of the ISO 20022 standard; the introduction of Unique Product Identifiers and a move away from file upload to use of XML. For firms who delegate reporting, while the rules don’t alter the obligation, the scope of the upcoming changes means firms should seek to evaluate that their reporting party is able to comply, given that they remain liable for reporting.

Process improvements

Winston Churchill may not be the obvious guru for Collateral Managers, however his observation that ‘to improve is to change; to be perfect is to change often’ sounds like sage advice. Whether the driver for change is regulation; organic business growth or cost savings, 2024 should see firms focus their attention on improving existing operational processes, as well as laying the foundation to support new initiatives.

“To improve is to change; to be perfect is to change often”

Winston Churchill

While UMR has been a key driver of increased workloads in recent years, both in terms of project delivery and creation of an operational framework, it is likely to continue to occupy the minds, and time, of Collateral Managers. For those firms who have so far taken the ‘lighter’ route of IM monitoring, they may find themselves approaching IM thresholds, and hence may need to improve operational capacity to manage the margining, settlement and reconciliation of Initial Margin. And even those more mature firms with robust IM capacity may find themselves stretched by additional volumes, necessitating further investment in workflow automation and triparty connectivity. For firms who chose to reduce the impact of UMR by outsourcing the day-to-day management of IM requirements, many are now reviewing that and determining whether the time is right to bring in-house.

Recognising the ongoing UMR challenge, a recent BCBS-IOSCO paper recommended that ‘firms should ensure that existing UMR frameworks expand as existing Initial Margin exposure increases, potentially forcing firms to move from a low effort ‘monitoring’ approach to a more resource intense (and costly) exchange of Initial Margin’.

“firms should ensure that existing UMR frameworks expand as existing Initial Margin exposure increases, potentially forcing firms to move from a low effort ‘monitoring’ approach to a more resource intense (and costly) exchange of Initial Margin”

BCBS-IOSCO

The same paper also proposed recommendations to ‘encourage more widespread automation and standardisation of the margining operational processes and highlight the need for proper operational risk management’. For many, such improvements should focus on improved use of electronic messaging for margin call exchange, thus reducing time and efforts, plus improving the end to process, particularly around collateral settlement and dispute resolution.

While much of the market focus has been on improvements for OTC margining, firms should now leverage these same tools to bring efficiencies across Cleared, Repo and ETD products. Case in point is exchange traded products, with more than 130 billion contracts traded in 2023, doubling in just two years. A focus on adoption of industry standards (systems; protocols; processes etc.), can help facilitate synergies across products, further allowing firms to manage risks centrally and reduce overall costs.

Technology upgrade

Improved technology is central to helping firms meet their requirements around regulatory change and operational improvements. While some firms used UMR as an opportunity for system upgrade and renewal, others took a ‘wait and see’ approach. Given the current trend for increased automation, a potential need for ongoing regulatory tweaks – combined with moves to consolidate margin processing onto a single platform – and that previous investment is now looking like money well spent.

Key areas of focus are leverage of cloud capability and shared use of network infrastructures to reduce cost and quickly help firms achieve industry best-practice. Infrastructure improvements across the collateral lifecycle can help firms leverage automation to meet increasing volumes and operate within shorter time windows.

Optimisation

An impact of regulation can be to increase both capital and liquidity costs. While rising interest rates make the use of cash collateral increasingly more expensive. The net impact is that more and more firms are considering how optimisation can be used to combat these increases.

The goal of optimisation may be different for each organisation, so firms need to work across Risk, Front Office and Operations to determine the most appropriate optimisation objectives for their firm. Some may choose to focus on minimising capital costs (SA-CCR; RWA etc), while others prioritise operational efficiency or reduced funding cost (SIMM™; CCP IM etc.) – while for others a multi-function approach may be necessary. Pre-trade optimisation capabilities may be used to help firms select the optimal trading venue or counterparty, while a post-trade strategy may assist firms to offset risk through compression or offsetting trades, or lower funding cost by selection of cheaper collateral assets.

Capital and liquidity optimisation require complex processing and are often applied in a real-time environment hence some firms may determine the pay-off is not yet sufficient. This doesn’t mean they should disregard optimisation entirely. Instead they should focus on operational optimisation, improving processes to minimise manual efforts and deliver the highest levels of STP.

Summary

How firms balance the above challenges will vary based on their individual starting point; budget; Front Office/regulatory focus and technology capability. OSTTRA is helping firms address these challenges every day. In 2023 we saw record adoption across new asset classes, as firms focus on centralised processing for Cleared, Repo and ETD products. Similarly, we see more and more firms embracing cloud and automation to manage their end-to-end collateral business, while the optimisation conundrum continues to drive client conversations.

Given this year is also marked by the first US-crewed mission to the moon in more than 50 years, perhaps the question for Collateral Managers is, ‘will they take a small step, or a giant leap in 2024’?

Focusing on Collateral: It’s Not Just About the Back Office

Neil Murphy, business manager at OSTTRA triResolve Margin, explores the myriad demands of technology, compliance and risk, as well as key focus areas for 2025

While the use of collateral to secure loans and reduce risk has existed for centuries, the evolution of financial markets — combined with volatility and regulation — has seen collateral importance grow at considerable pace over the last decade. In the post-2008 landscape, the role of collateral managers has become increasingly critical in maintaining operational efficiency, ensuring regulatory compliance, and mitigating counterparty risk.

Correspondingly, the focus on the ‘what and how’ of collateral management has evolved, creating new demands from front office, risk, compliance and technology. Viewing collateral management through a back-office lens is very much a 20th century perspective.

Front office

Faced with meeting a need to post larger amounts of collateral — driven by Uncleared Margin Rules (UMR) and volatility — combined with increasing funding costs, 2025 will see front office teams looking to reduce the cost of posting collateral and improve overall capital efficiency. Collateral optimisation is therefore becoming a larger focus for those who manage collateral P&L. It is expected to become a more critical aspect of collateral management, with growing pressures on firms to use their assets more effectively.

How firms select collateral to meet margin calls varies from firm to firm, with many defaulting to deliver cash. While this removes any decision-making and is operationally simple, it comes with a funding cost.

Firms who have traditionally relied on cash are starting to consider whether non-cash assets (including government, agency and corporate bonds, as well as equities) would help to reduce cost. For those firms already holding non-cash inventories, this is an easier step, while for those without, it may mean exploring alternative funding sources, such as repo markets or intraday liquidity facilities to leverage these asset types.

While collateral optimisation can help firms to reduce funding costs, it can also be used to meet other objectives, including improved asset allocation and operational efficiency. As such, developing an optimisation approach should be a firm-wide decision. While ‘cheapest to deliver’ might be an obvious optimisation approach, it is no good if it comes with huge operational costs (managing hundreds of small collateral positions; dealing with substitutions and corporate actions; settlement costs, etc).

The combined interests of front office and collateral managers should ensure a focus on allocating the ‘right’ collateral, where ‘right’ may vary from one firm to another, and even from one day to the next. This means they should ensure they are using the most appropriate, cost-effective collateral, such as high-quality liquid assets (HQLA), while preserving their best assets for other business purposes.

An effective optimisation programme must dovetail with the operational collateral process, allowing real-time decisions about collateral allocation, while taking into consideration eligibility criteria, liquidity needs and cross-asset margin requirements (including bilateral OTC, cleared and repo).

Post-UMR, front office teams are also taking a proactive approach to assess the impact of new trades and looking to leverage pre-deal analytics to assess the collateral impact of new positions, therefore helping them to select an optimal counterparty and minimise collateral postings or remain under UMR thresholds.

Similarly, an increased focus on minimising the cost of capital required to meet margin requirements means front office are looking to portfolio optimisation tools that will allow them to net exposures across multiple counterparties, reducing the overall collateral burden. While both pre-deal checks and portfolio compression are priorities for the front office, they have a direct impact on collateral managers and may require new system interoperability, as well as being dependent on high levels of data quality.

Other areas of overlap between front office and collateral managers may be driven by counterparty preference, where end clients insist on specific credit support annex (CSA) terms, or use of industry-standard tools (including OSTTRA triResolve portfolio reconciliation or Acadia messaging) to sign a CSA. Ensuring these terms can be met — particularly where related to industry standards and technology — may require collaboration and prioritisation.

The UK liability-driven investment (LDI) crisis in September 2022 highlighted the importance of liquidity management. And while collateral managers themselves cannot do anything to improve liquidity, their role as client-facing and managing margin calls highlights the importance of transparency between them and the front office.

They will often be the first to understand the amount of funding that is required across counterparties, and increasingly front office teams are leaning on them for early insight and confirmation of calls. This highlights the importance to a collateral manager of being able to support early margin calls, leverage an automated workflow and gain real-time insight into margin disputes.

Risk and compliance

In recent years, one of the primary responsibilities of a collateral manager has been to ensure compliance with various regulatory frameworks, notably the European Market Infrastructure Regulation (EMIR) and UMR. Ensuring they do this correctly means greater collaboration with risk and compliance teams, as well as the front office, who are aware that a lack of compliance may impact or restrict their trading opportunities.

Since the rollout of UMR, collateral managers have had to adapt their practices to meet variation margin (VM) — and potentially — initial margin (IM) requirements. Whether your firm is ‘done’ with UMR largely depends on the size of your portfolio, your jurisdiction and the level of any existing IM exposure.

Most firms already in-scope should have fully integrated support for the regulations into their collateral management processes. For larger firms, IM has quickly become part of their BAU process, while for smaller firms not yet fully impacted, their focus now lies on ensuring they continue to avoid the full impact by remaining below threshold levels, or ensuring they are prepared once threshold levels are breached.

This means:

Threshold monitoring: constant monitoring of IM exposure to ensure that exposures remain within regulatory limits.
Legal documentation preparation: negotiation of new regulatory compliant IM CSAs.
Custodian onboarding: ensuring support for segregation requirements to hold IM collateral at a third-party custodian or triparty.

Collateral managers must ensure that they comply with the regulatory requirements of each jurisdiction in which they operate. This includes adhering to local collateral eligibility rules, margin requirements, and reporting standards. The introduction of margin rules in new jurisdictions over 2024-25 will ensure collateral managers remain busy.

Basel III Endgame’s capital adequacy regulations, particularly those governing the liquidity coverage ratio (LCR) and net stable funding ratio (NSFR), continue to influence firms’ thoughts about collateral at a higher level. The impact being a focus on optimising collateral portfolios to meet these requirements, ensuring they minimise the impact on liquidity and operational costs.

An increased regulatory focus on stress testing may mean firms will be required to consider liquidity stress tests that model various market scenarios and allow them to anticipate potential liquidity shortfalls while ensuring they can meet margin calls during periods of volatility.

Technology

The role of technology in collateral management has expanded significantly in recent years. Automation and digitisation are now transforming how collateral is managed for many firms, with a focus on reducing operational risk, improving efficiency, and increasing transparency. However, for those firms that find themselves behind in the race to update their systems and move to industry standards, 2025 may be a year for catch-up.

Automation has become a cornerstone of collateral management. By automating routine processes such as margin calls, settlements, and reconciliations, collateral managers have largely been able to reduce the risk of human error, lower operational costs, and improve efficiency — while similarly allowing business growth and scalability. If not already done, adoption of these standards should be a priority for collateral managers, allowing them to move away from high-touch manual processing and move towards real-time capabilities.

Adoption of industry standards and new technology — particularly in terms of collateral workflow — are essential building blocks. The emergence of new technologies such as blockchain and distributed ledger technology (DLT) are already creating noise in the collateral world, and firms will struggle to adopt these next-gen capabilities if they are already behind from a technology perspective. Their use case is becoming clearer, with these technologies expected to enhance the transparency and security of collateral movements, allowing improved automation, while ensuring real-time collateral transfers.

“The emergence of new technologies such as blockchain and distributed ledger technology (DLT) are already creating noise in the collateral world, and firms will struggle to adopt these next-gen capabilities if they are already behind from a technology perspective. Their use case is becoming clearer, with these technologies expected to enhance the transparency and security of collateral movements, allowing improved automation, while ensuring real-time collateral transfers.”

– Neil Murphy, OSTTRA

Effective November 2025, new ISO 20022 requirements will necessitate that collateral managers upgrade their SWIFT capabilities to meet new standards for payment instructions, ensuring collaboration with technology teams should have likely begun already.

Largely thanks to ChatGPT, 2023 was the year AI entered the mainstream. With this increased acceptance, more and more firms are looking to adopt AI and machine learning strategies as a means of reducing cost and increasing capacity. For the collateral manager, use cases include margin workflow and collateral optimisation, while the data analytics capabilities of AI will provide insights into collateral usage, market trends, and counterparty behaviour.

Conclusion

The role of a collateral manager in 2025 is likely to be more challenging and technology-driven than ever before. Collateral managers will need to ensure they are ready to support the growing focus of their colleagues in front office, risk, and technology, ensuring their firms can meet compliance requirements and optimise collateral positions, while supporting a wider focus on liquidity management and risk mitigation.

To do so, they will need to continue evolving their collateral technology, ensuring the integration of new industry-standard tools, and adoption of new technologies to stay competitive in a rapidly evolving market. By focusing on these key areas, collateral managers can help to navigate ongoing volatility while driving efficiency, reducing costs, and managing risk effectively.

The Perfect Storm: Volatility, Margin Calls, and the Scramble for Liquidity

In the derivatives world, margin calls are frequently viewed as a routine back-office function. From an operational perspective this makes sense – a margin call is simply a demand from your counterparty (or CCP/Clearing Broker) to provide additional collateral to cover potential losses in a derivatives position. It is triggered when the value of your position moves against you, and the existing collateral is no longer sufficient to meet the minimum requirements. But while margin calls may be operational in nature, they form a critical function in helping firms manage their counterparty credit risk. However, when market volatility hits, these routine calls can escalate into a “perfect storm,” creating a cascade of liquidity challenges that reverberate throughout the financial system. Here, we analyse the dynamics of volatility-driven margin calls, exploring their operational impact, the role of collateral, and the ever-present cost of funding.

A question of eligibility and liquidity

Not all assets are created equal when it comes to collateral. While ‘cash is king’ may be a common sentiment, that may not be the case for all firms, particularly those who face an opportunity cost in holding large cash reserves, such as pension funds. As a result, market participants rely on a diverse range of eligible collateral, which typically includes high-quality and liquid securities such as government bonds, as well as equities and corporate bonds. However, this collateral diversity comes at a cost, with anything other than short-term government debt subject to a larger haircut due to increased price volatility and reduced credit worthiness.

With market volatility comes an increase in margin demands – both in size and volume – the impact of which can lead to collateral shortages for firms, which in turn can lead to a sale of assets to meet any sudden rise in requirements. As witnessed during the UK LDI crisis of 2022, the sale of assets led to a fall in their value, which combined with the increased demand for collateral, created a vicious cycle which created significant liquidity strain on firms, requiring central bank intervention.

The impact of volatility is to magnify liquidity issues which risks spreading the initial shock across the wider market.

The hidden price of protection: The cost of funding

Meeting a margin call isn’t free. The cost of funding is a critical, and often overlooked, component of managing margin obligations. This cost is driven by several factors, particularly in the repo market, which is the primary source of short-term funding for collateral. When volatility increases, firms scramble for cash and high-quality assets, and the repo rate for high-quality collateral can spike. This makes it more expensive for firms to borrow collateral to meet margin calls.

The window to fund margin calls is very limited, with same-day collateral settlement standard in most markets, or extended only as far as T+1 for some non-cash assets. In addition, intra-day volatility can trigger additional calls in Cleared and ETD markets, which may need to be met within hours. In a 2024 speech, the Bank of England’s Nathanael Benjamin highlighted the recurring liquidity strains faced by market participants caused by periodic unrelated market events, including the COVID-19 outbreak, Russian invasion of Ukraine and UK Gilt crisis. While the underlying cause of market disruption was different in each case, the impact was similar – significant increases in margin requirements. Given the cost of funding is a direct reflection of market stress, it may become prohibitive during a crisis thus creating a serious barrier to maintaining positions.

The operational onslaught

High volatility doesn’t just impact prices; it can unleash an operational tsunami. As prices fluctuate, the volume of margin calls may increase dramatically. The sheer volume of margin calls can overwhelm even the most sophisticated operations teams. Furthermore, the size of each call becomes larger as the delta between the position and the collateral widens. The “dash for cash” episode at the outbreak of COVID-19 saw global variation margin requirements required by CCPs surge from a daily average of $25 billion to a single-day peak of $140 billion.

For those firms still reliant on manual call processing, volatility can lead to operational bottlenecks as legacy processes and systems struggle to cope with even the smallest increase in call volumes. Further, the time-sensitive nature of margin calls – with typical deadlines of only a few hours – puts immense pressure on teams. The hurried nature of high-volume margin calls can also lead to disputes over valuation and calculation, adding another layer of operational complexity.

“Volatility can lead to operational bottlenecks as legacy processes and systems struggle to cope with even the smallest increase in call volumes.”

– Neil Murphy, OSTTRA

The path forward: Managing the perfect storm

Given the frequency of market volatility in recent years, the impact should be clear to firms. However the pertinent question is whether adequate lessons have been learned? The responsibility is clearly on the shoulders of individual firms, as Nathanael Benjamin stressed that ‘market participants play their part in ensuring exposures are adequately covered, and that they act as an effective first line of defence. And so that central banks can be the last resort, not the first resort.’

How firms respond in order to best prepare for future volatility requires a holistic strategy that integrates risk management, collateral operations, and liquidity planning.

From an operational perspective firms must move beyond a reactive approach to margin calls. While recent regulatory changes have seen increased investment in margin, firms should go further and implement automated workflows that allow them to seamlessly manage spikes in call volumes and cover the entire call lifecycle from calculation to settlement. Standardisation of processes and automation should improve operational readiness, allowing firms to navigate a crisis rather than succumb to it.

Similarly, they should review collateral eligibility options, ensuring that they are not constrained by eligibility limitations, and establish associated funding lines in order to access sufficient collateral.

While firms may not be able to predict when volatility will hit, they should improve stress testing and scenario analysis to simulate the impact, allowing them to gauge the firm’s resilience and identify potential liquidity gaps. This should consider the impact across asset classes and for both VM/IM.

In conclusion, volatility-driven margin calls are a powerful force in financial markets, capable of transforming a routine risk management process into a major source of systemic risk. The ability to manage this challenge is not just about having the right collateral, but also about the operational resilience to handle the volume, the financial foresight to manage the cost of funding, and a strategic approach to liquidity management. As markets continue to evolve, these capabilities will become increasingly important for survival and success.

“Volatility-driven margin calls are a powerful force in financial markets, capable of transforming a routine risk management process into a major source of systemic risk.”

– Neil Murphy, OSTTRA

XVA at the Forefront: Addressing Key Financial Challenges

Dai Yamashita, Post-Trade Quantitative Research & Development Manager at OSTTRA, guides us through the dynamic landscape of XVA, focusing on key themes that currently resonate within our customer base.

Archegos crisis and recognition of the importance of XVA

In recent years, significant loss incidents such as the Archegos crisis have fuelled growing interest in XVA among various financial institutions. Notably, the function of XVA desks and their role in counterparty risk management has become increasingly vital.

For accounting purposes, mid-sized financial institutions have been required to implement CVA by regulators and auditors. The introduction of CVA into accounting has increased the interest of management and created pressure to consider CVA in pricing and risk management. We are aware of the increasing need for calculations in Front Office and Risk Management at those institutions, such as CVA sensitivity calculations and pre-deal CVA simulations.

Through our market-leading collateral management platforms OSTTRA triResolve and triResolve Margin, we have observed that a wide range of financial institutions are becoming increasingly aware of the significance of CSA terms for CVA in collateralised trades.

SA-CCR and KVA

Financial institutions, including non-G-SIB regional banks, that have established XVA desks are actively managing XVA according to their business characteristics. For example, the migration from CEM to SA-CCR could motivate a wide range of banks to start managing KVA based on SA-CCR to prepare for the increased capital cost on short-term transactions.

From a macro perspective, CVA has long been a concern for authorities due to the adverse selection problem, where the systemic risk arises from CVA-unfavourable trades being concentrated in financial institutions lacking proper CVA management. A similar mechanism applies to KVA as well. There is a risk that transactions unfavourable in terms of cost of capital may become concentrated in institutions that do not actively manage KVA, leading to a widening gap in capital cost performance. Consequently, we anticipate that KVA will increasingly become a growing concern for an even broader range of financial institutions in the future.

Benchmark Reform and FVA

Benchmark Reform, including the finalisation of the LIBOR part in June 2023, could also have implications for XVA. If the LIBOR discount was previously applied to uncollateralised trades before the Benchmark Reform, the application of the OIS discount as a result of the Benchmark Reform will lead to a smaller difference in the valuation treatment between uncollateralised and collateralised trades. This has increased the importance for a wide range of financial institutions to properly consider the funding costs/benefits of uncollateralised trades through FVA.

Basel III

Regarding the finalisation of Basel III, SA-CVA is likely to be a significant topic of discussion. While there may be reasonable hurdles, such as the need to establish a CVA desk and obtain approval from authorities, it is expected to be more effective in reducing RWAs by hedging credit risk using a proxy or hedging market risk. Moreover, the impact of collateral can be directly considered in the exposure simulation, further enhancing the effectiveness of reduction efforts. This presents an excellent opportunity for financial institutions to begin managing CVA within the CVA desk framework.

As an example, our OSTTRA triCalculate XVA engine not only supports XVA sensitivities but is also optimised for performance using GPU utilisation, enabling us to overcome performance challenges. With this capability, we aim to assist financial institutions seeking to reduce RWAs through SA-CVA in the future.

UMR, MVA and collateral modelling

Another recent regulatory change is the implementation of Phase 6 of the UMR in September 2022. Alongside the initiation of Phase 5 in 2021, a significant number of financial institutions worldwide have come under IM regulations, making IM exchange for interbank transactions even more common.

From an XVA perspective, it now becomes more essential to consider the impact of future IM in both CVA and MVA calculations.

Depending on the calculation approach, this may involve computing SIMM™ sensitivities at future simulation dates, which can be computationally intensive and equivalent to MVA in terms of complexity. However, in our case, OSTTRA triCalculate provides a SIMM™ calculation engine alongside the XVA engine, which has been widely adopted by many financial institutions globally. We can effectively leverage the SIMM™ engine to perform accurate and up-to-date SIMM™ computations in MVA/CVA calculations. This ensures a comprehensive and robust assessment of the implications of future IM in XVA considerations.

Furthermore, in response to the evolution of IM regulations, there has been a standardisation of margin conventions that consider both IM and VM IA (Independent Amount). As a comprehensive provider of collateral management-related platforms, OSTTRA remains constantly updated with the latest developments in these areas and incorporates them into our XVA calculations as required.

Regarding collateral treatment, although there has been a general trend preferring “clean CSA”, where cash collateral is posted in the currency of the underlying trade, there is still considerable demand for handling various types of collateral posting. As a response to our clients’ needs, OSTTRA triCalculate has recently enhanced its collateral handling capabilities and upgraded the ColVA calculation accordingly, ensuring flexibility and adaptability to different collateral requirements.

User-friendly and holistic calculation service

From our perspective as a provider of XVA calculation services, we understand the increasing benefits of performing various derivatives-related calculations in an integrated manner. The ability to conduct multiple calculations from a unified interface, efficiently and cohesively, brings significant advantages. For example, performing SIMM™ calculations at future simulation dates within MVA/CVA computations or addressing the need for SA-CCR calculation in CCR KVA using the same interface as the spot SIMM™/SA-CCR calculations proves highly advantageous.

We aim to meet the varied calculation requirements of our clients through a comprehensive approach. By considering this aspect and focusing on usability optimisation, we strive to offer a solution that streamlines the process and enhances overall performance. Our goal is to provide a user-friendly and effective platform that caters to the evolving needs of our clients in the realm of derivatives-related calculations.

To find out more, talk to a member of our team at info@osttra.com.

OSTTRA Paper Digitisation Module Demo

Complete the form below to watch the demo of OSTTRA Trade Manager’s new digitised paper workflow and learn how:

To parse long form PDF confirmations for trade economics to create a digital representation of the trade.
To track the progress of your confirms through the digitisation process and understand their status.
To receive recommendations on your trade submissions that could potentially match to the PDF.
The matching process works.
To easily identify breaks for resolution.
To process the matched trade through authorisation steps within workflow.
To apply electronic signatures to the PDF and return the confirmed trades to counterparties.
To have a full audit of the all-paper confirmation transactions including any amendments made.

It’s Not All About SIMM™ vs. SCHEDULE!

Regulatory IM collateral segregation and the choice of triparty versus third-party

While the need to calculate and post Initial Margin grabs the headlines, so to speak, in terms of priorities for firms looking to comply with uncleared margin rules (UMR), there are many other issues for firms to consider.

Not least is the requirement that Initial Margin (IM) is segregated in a bankruptcy remote account. Firms coming into scope and obliged to exchange IM, must work out HOW they will segregate collateral. The fact that many of these firms will be using non-cash collateral for the first time adds to the challenge.

There are two segregation structures in play today: triparty and third-party, and there are multiple factors to consider before deciding what’s best for a firm. This choice impacts the new legal documentation to be put in place, including clauses in the Account Control Agreement with each custodian, as well as new ISDA Credit Support documentation with each counterparty. It also has direct consequences on a firm’s operational model.

For many firms coming into scope in phase 5/6 of the rules, the triparty model is an entirely new process given the wider reliance on the traditional custody model. For those not currently utilizing a segregation model for collateral held as Variation Margin (VM),this may mean a steep learning curve, and you must weigh the relative cost vs. operational process requirements of each model.

Tri-Party

Triparty structures are generally more expensive than third party structures. This is because in the triparty model the custodian provides a broader range of services, taking on more of the operational process on behalf of the client.

Clients must each maintain a ‘long box’ of potential collateral at the triparty custodian. Upon agreement of the IM margin call, each party must instruct the custodian of the RQV (required collateral balance). This contrasts with traditional VM settlement, where each party will also agree the collateral to be pledged before instructing the custodian.

Upon receipt of the RQV, the custodian will check the existing balance of the segregated account, look in the pledgor’s long box to see available securities and determine which securities in the long box are eligible to be pledged for this agreement, before calculating how much collateral must be moved to get to the required balance.

It will then move/settle the appropriate collateral to the segregated account. In this case, the triparty custodian selects the asset to pledge, applies a haircut and calculates the collateral value. It may also provide optimization services to provide the best use of a client’s long box, as well as perform collateral substitutions on the client’s behalf.

Third-Party

Third-party structures are generally less expensive because they require clients to ‘own’ more of the operational workflow steps involved in collateral selection and settlement. Under the third-party structure, firms and their counterparties must first agree the IM call amount and then the collateral to be pledged, before instructing settlement to the custodian.

In other words, when firms use a third-party custodian they are responsible for calculating the amount of additional collateral required, selecting an asset, verifying collateral eligibility, applying haircuts, valuing collateral, performing optimization, managing substitutions and instructing settlement to the custodian. This is the same process that would be used to post securities if the collateral was not segregated.

What to do?

If you are using a third-party structure today for segregation of Variation Margin or Independent Amount, you likely already have a process in place to support non-cash collateral. Your experience with these processes, as well as your relationship(s) with existing custodian(s), may make a third-party model a natural choice. However, if you are only using cash collateral today, the additional operational requirements brought about to segregate non-cash collateral may seem unattainable in a short timeframe. Firms need to clearly understand each model and assess not only their operational capacity, but systems capability too. The challenge of meeting an entirely new collateral segregation process using legacy technology – which was probably built long before the requirement to exchange Initial Margin evolved – must not be overlooked.

To learn more about Collateral Management, click here or contact us at info@osttra.com.

2023 Outlook for Collateral Managers

Collateral Managers have been balancing busy ‘to do’ lists in recent years. Much of this was derived from global Uncleared Margin Rules (UMR) which introduced new requirements to calculate and post Initial Margin (IM) and have occupied the OTC derivatives market since 2016. Following the passing of the last UMR phase in September 2022, many may have been looking forward to calmer times.

Unfortunately that may not be the case!

While some firms took the opportunity to completely revamp their collateral systems and processes as part of their UMR preparations, others either adopted a narrow UMR-specific focus or kicked the can down the road entirely. For firms in the last two groups, there’s nothing potentially ‘wrong’ with either approach, since regulatory relief allowed phase 5/6 firms to defer some key UMR preparation steps where certain criteria were met. However, in doing so firms potentially didn’t take the opportunity brought by regulatory change for an extensive end-to-end review of their collateral setup, across uncleared, cleared & exchange traded. The result – many firms still follow legacy processes, run multiple systems to margin separate products, lack connectivity to industry utilities and have low (or zero!) levels of automation.

For firms already in-scope for UMR – regardless of the path they’ve taken to date – and for those firms not yet in-scope, several areas stand out where Collateral Managers should focus their attention in 2023.

Update processes

Organisations need to evolve – ensuring their operational processes are updated to meet new and changing business needs – while also keeping up to date with wider industry standards. For Collateral Managers, this means use of robust workflow tools which allow real-time processing and drill down into margin calls, disputes and settlements.

Firms should implement integrated workflows that ensure operational flows are logical and scalable – while providing easy access to data, both current and historic, ensuring high levels of transparency for management and audit.

In addition, firms should look to implement the same standards whether processing bilateral OTC derivatives, Cleared, Repo or ETD. Moving from siloed processing of individual products will allow the transition to a single cross-product margin workflow.

Improve automation

Regardless of size, all firms should be looking to leverage automation. This removes the need for teams to perform low value-add tasks (e.g. manually sending margin calls), supports increased business growth & scalability, reduces costs, and enables straight-through processing.

Manual tasks also give rise to increased operational risk, so a focus on automating these areas can also help reduce errors.

Improved automation shouldn’t focus only on the margin call process, but the entire collateral lifecycle; from data capture to dispute resolution and settlement.

In a rising interest rate environment where firms may be looking to use bond collateral to reduce costs, they should automate all related tasks, including asset optimisation, pricing and substitution. Overall, firms should be moving towards an exceptions-based approach – where time & resources are focused more on resolution of risk related issues, and not operational processing.

Leverage technology

Adoption of the latest available margin technology will allow firms to achieve automation and best-practice processing, as well as enabling the transition to a single cross-product solution. Firms using outdated systems – whether built internally or installed vendor solutions – should benchmark their requirements versus latest industry tools, and many will identify an opportunity for significant benefits.

Cloud-based offerings provide firms with access to up-to-date features, removing both the need for upgrades and infrastructure hosting costs.

Similarly, many offer out of the box connectivity to industry utilities and counterparties, including Acadia electronic messaging; triResolve portfolio reconciliation and SWIFT settlement.

Complete/improve UMR preparations

For firms who have implemented tactical UMR solutions, it is critical not to allow these to become embedded, potentially limiting the ability to manage IM, regardless of whether exchanging IM today or expecting only to do so in the future. Likewise, those firms who have chosen to defer some of the preparation steps must ensure that UMR readiness is not forgotten.

Firms should ensure they can calculate IM across all portfolios and asset classes, as well as having a robust solution to manage IM exposures. If they are monitoring IM today, then they should ensure they are prepared to move quickly as IM increases and be ready to sign IM documentation and implement a process to both collect and post collateral. Crucially they must also ensure they can segregate collateral at either a triparty or 3rd party custodian, including the ability to instruct settlement via SWIFT.

This provides a starting point for those Collateral Managers thinking about 2023 priorities. When considering your own organisation, firms should target operational efficiency, reduced complexity and replacement of older IT systems. The gains that firms can hope to achieve include reduced settlement fails, improved dispute management, lower processing costs and adoption of industry best-practice (both for operations & technology).