EMIR

Publication | August 2014

ESMA consultation papers

ESMA has published two consultation papers1 on the clearing obligation under EMIR. These consultation papers are the first two public consultations regarding which OTC derivative contracts should be made subject to the mandatory clearing obligation under EMIR. They have been published as a result of the notifications made to ESMA that a number of EU CCPs have been authorised to clear certain classes of OTC derivatives.

These papers have been much anticipated by the market not just because they set out some of the contracts which ESMA thinks should be subject to the clearing obligation, but also because they have provided some much needed clarity on the frontloading obligation and the phase in timings for the clearing obligation for different sectors of the market.

Who is subject to the clearing obligation?

Trades in contracts which have been declared subject to the clearing obligation must be cleared when they are between the following types of counterparty:

  • two financial counterparties;
  • a financial counterparty and a non-financial counterparty which has exceeded the clearing thresholds (NFC+);
  • two NFC+s;
  • a financial counterparty and a third country entity that would be subject to the clearing obligation if it were established in the EU;
  • a NFC+ and a third country entity that would be subject to the clearing obligation if it were established in the EU; and
  • two third country entities that would be subject to the clearing obligation if they were established in the EU provided that the contract has a direct, substantial and foreseeable effect within the EU or where such an obligation is necessary to prevent the evasion of EMIR.

Which OTC derivative contracts are covered by these proposals?

These papers cover the following three types of OTC derivative contract:

  • OTC interest rate derivatives;
  • OTC credit derivatives; and
  • OTC equity derivatives (ESMA has concluded that those OTC equity derivative contracts which have been notified to it should not be subject to mandatory clearing).

Other contracts in these asset classes could be included in the future as a result of more CCP authorisations or already authorised CCPs expanding their product range, or if ESMA decides to utilise the top-down method of identifying contracts which should be mandated for clearing.

Other asset classes (for example OTC commodity derivatives and OTC FX derivatives) will be covered in subsequent consultation papers.

How will the frontloading requirements work?

Frontloading is the obligation to clear OTC derivatives contracts of a class which has been declared subject to the clearing obligation which are entered into between the date on which the notification to ESMA that a CCP has been authorised to clear that type of OTC derivative contract and the date the clearing obligation comes into force.2

The frontloading obligation has been particularly controversial as many in the industry have argued that the uncertainty over which OTC derivative contracts will become subject to the clearing obligation and the unknown duration of the frontloading period have created legal uncertainty about the status of OTC derivative contracts entered into after the CCPs are authorised and an inability to correctly price such transactions. ESMA has sought to address this uncertainty in the consultation papers.

ESMA proposes that the frontloading period can be split into two periods:

  • the period between the notification to ESMA and the publication of the relevant RTS in the Official Journal (‘Period A’); and
  • the period following the publication of the relevant RTS in the Official Journal and the date on which the clearing obligation takes effect (‘Period B’).

ESMA has stated that OTC derivative contracts entered into in Period A will not be subject to the frontloading requirement, whereas OTC derivative contracts entered into in Period B may be subject to the frontloading obligation. The determinant for whether an OTC derivative contract entered into in Period B will be subject to the frontloading obligation is whether, as at the date of the application of the clearing obligation for that OTC derivative contract and for the counterparty in question, there is a certain minimum remaining maturity.

Contract typeMinimum remaining maturity for contracts entered into in Period B which would make such contracts subject to the frontloading obligation
OTC interest rate swapsContracts with at least six months before expiration on the date of application of clearing obligation
OTC interest rate optionsNot subject to the clearing obligation, so no frontloading obligation will apply
OTC interest rate futuresNot subject to the clearing obligation, so no frontloading obligation will apply
OTC credit derivativesContracts with at least six months before expiration on the date of application of the clearing obligation
OTC equity derivativesNot subject to the clearing obligation, so no frontloading obligation will apply

Non-financial counterparties and the frontloading obligation

ESMA has also stated that the frontloading obligation will not apply to contracts for which at least one counterparty is a non-financial counterparty.

Frontloading

What are the phase-in proposals?

There will be a phased-in implementation approach to the clearing obligation, with different categories of counterparty becoming subject to the clearing obligation at different times. ESMA has proposed that counterparties will be split into three categories for the purposes of the implementation date for the clearing obligation.

CategoryDescriptionImplementation date
Category 1: Clearing members

Entities which are, at the date the relevant RTS comes into force:

  • clearing members of at least one CCP (such CCP having been authorised to clear the class of derivatives which are subject to the RTS); and
  • their clearing membership allows it to clear the relevant class of derivatives
6 months after the entry into force of the RTS
Category 2: Non-clearing Members(Provided they do not fall into Category 1) financial counterparties and AIFs qualifying as NFC+18 months after the entry into force of the RTS
Category 3: NFC+(Provided they do not fall into Category 1) NFC+ (excluding AIFs which are NFC+)3 years after the entry into force of the RTS

Phase in time line

Are there any exemptions from the clearing obligation?

Intragroup transactions

Certain intragroup transactions may be able to rely on an exemption from the clearing obligation. The transactions will have to meet the definition of ‘intragroup transaction’ set out in EMIR and counterparties will have to notify their competent authority that they wish to rely on the exemption. The notification must be made at least 30 calendar days before the counterparties wish to use the exemption and the competent authority may object if the requirements are not met.

Covered bonds

OTC interest rate derivative contracts associated to covered bond programmes will not be caught by the clearing obligation provided they meet certain criteria.

Pension schemes

Certain pension schemes may be able to rely on the temporary exemption from the clearing obligation which is set out in the EMIR transitional provisions. However, given the proposed implementation timings and the fact that most pension schemes are expected to fall into Category 2 (see What are the phase-in proposals? above), this exemption would need to be extended by the Commission in order for it to still be available when the clearing obligation took effect for most pension schemes.

What should you be doing to prepare for the clearing obligation?

  • Financial counterparties and NFC+ (or those managers acting for financial counterparties or NFC+) should start getting their clearing arrangements in place now. We have published a guide to client clearing (EMIR – the next challenge ... client clearing) which you may find useful to refer to.
  • Financial counterparties and NFC+ should identify which of the products that have been proposed to be subject to mandatory clearing they use, and identify whether they currently have any contracts which are likely to be subject to the frontloading requirement.
  • Financial counterparties and NFC+ should ensure that they know which of their OTC derivative counterparties will also be caught by the clearing obligation.
  • Any counterparties which intend to make use of any of the exemptions should assess whether they are able to meet any of the applicable conditions and ensure they understand the process (if any) for notifying or applying to the relevant competent authority(ies).

What happens next?

The European Commission will need to adopt the RTS before they can be entered into the Official Journal.

ESMA will publish additional consultation papers looking at other OTC derivative contracts which have been notified to it as a result of the authorisation of the various EU CCPs.


  • 1 Clearing Obligation under EMIR (no. 1) 11 July 2014/ESMA/2014/799 and Clearing Obligation under EMIR (no. 2)
    11 July 2014/ESMA/2014/800.
  • 2 See Article 4(1)(b)(ii) EMIR.
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