EU EMIR: European Parliament proposes amendments to EMIR 3.0

What has happened?

On 13 June 2023, the European Parliament published proposed amendments to the European Commission's EMIR 3.0 proposal (discussed in our briefing).

The proposed amendments address many of the concerns around EMIR 3.0, including the possible removal of the NFC intragroup reporting exemption. However, despite industry lobbying, the Parliament has retained the Commission's most controversial proposal – the active account requirement. If this requirement is implemented, it will have a significant impact on affected market participants, who will need to monitor their group-wide levels of EU and non-EU clearing and may need to move trades from the UK to the EU and maintain prescribed EU clearing levels.

What are the proposed amendments?

The amendments are wide-ranging and fall into three broad categories:

1. technical amendments to substantive obligations and provisions;
2. amendments designed to increase clearing in the EU; and
3. amendments designed to move the supervision of EU CCPs from national competent authorities to ESMA.

They include proposals to:

• commission an impact report and cost-benefit analysis on the proposed removal of the NFC intragroup reporting exemption and the effect that this could have on market participants;
• broaden the trade reporting obligation to include non-EU members of EU-consolidated groups;
• incorporate the temporary margin exemption for single-stock options and equity index options into the level 1 EU EMIR text and mandate regular reviews of other jurisdictions' treatment of these;
• reinstate substituted compliance for margining;
• introduce a conditional clearing exemption for post-trade risk reduction transactions;
• introduce a right of veto of market participants' initial margin models if they do not meet applicable criteria;
• implement a two-stage phase-in of the proposed active account requirement, with phase two only being implemented if phase one fails to adequately address the perceived risks;
• amend the scope of the proposed active account requirement;
• simplify the EU CCP approvals process so that they can more easily expand their service offerings and compete with UK CCPs; and
• amend the supervisory framework so that ESMA directly supervises all EU CCPs.

Technical amendments to substantive obligations and provisions

Impact report on proposed removal of NFC intra-group reporting exemption

The EU EMIR reporting obligation does not currently apply to intragroup transactions involving an NFC or a third-country equivalent NFC, subject to certain conditions. In its proposal, the Commission recommended removing this exemption, to increase ESMA's visibility of the risks taken by NFCs. This would significantly increase the reporting burden on NFCs while not necessarily bringing significant benefits; as the Parliament notes, the exemption is relatively new so its long-term impact, if any, on regulatory oversight is not yet known.

The Parliament has recognised the potential negative market impact that this could have and has recommended that ESMA prepare an impact report and cost-benefit analysis on the proposed removal.

Extension of trade reporting obligation to non-EU members of EU groups

The Parliament also proposes extending the scope of transaction reporting to non-EU entities within groups that are subject to consolidated supervision in the EU. This is to ensure that ESMA receives, via trade repositories, sufficient information to give it a full picture of trading by EU entities, including group activity. If this change is implemented it will have a major impact on market participants and will significantly increase the reporting burden for affected entities.

Temporary margin exemption for single-stock options and equity index options

At present, non-cleared single-stock equity options and index options benefit from a temporary margin exemption under the EU Margin Rules¹. This is because, when the EU Margin Rules were implemented, these products were exempted from corresponding rules in other jurisdictions - including the United States, reportedly the largest market for equity options - and the Commission wanted to ensure consistent treatment across jurisdictions. The exemption is only temporary because the EU wanted the ability to subject these products to the margin requirement if other jurisdictions' treatment changed. The temporary exemption has been rolled over several times and is currently due to expire on 4 January 2024.

In its report, the Parliament suggests incorporating a margin exemption for single-stock options and equity index options into the level 1 text of EU EMIR, rather than continuing to extend the EU Margin Rules exemption. Again, the exemption would only be temporary, but ESMA would be required to report to the Commission at least every two years on other jurisdictions' treatment of these options, and consider whether the EU exemption should be removed. At present, these products are still exempt from margining in many jurisdictions, including the United States.

If the EU exemption were to be removed, the Parliament recommends an implementation period of up to 30 months, during which the obligation would not apply.

In related developments, the ESAs²  have recently written to the EU co-legislators³  to ask whether the temporary exemption should be made permanent, as has been requested by ISDA and other trade associations. In the letter, the ESAs note that, although there is no prudential reason to continue the exemption, to do so would be consistent with the treatment of these products in other jurisdictions. As mentioned above, the rationale would be to ensure market consistency across jurisdictions.

Limited reinstatement of Article 13 on substituted compliance

As part of the Commission's proposed reform of the EU EMIR intragroup exemption regime it recommended removing Article 13, which permits substituted compliance. Under the substituted compliance regime, counterparties are deemed to have fulfilled their EU EMIR clearing, reporting and/or risk mitigation obligations if one of them is established in an "equivalent" third country.

If the provision were to be removed, this would no longer be the case and they would need to comply with both the third country rules and EU EMIR. Although "equivalent" suggests that the rules are substantively the same, there could nevertheless be an overlap of obligations - double reporting, for example.

In its report, the Parliament recommends retaining Article 13 as it applies to risk mitigation, as the ability to rely on substituted compliance in this area has "proved to be of some utility for […] market participants". This is referring to the fact that a number of margin-based equivalence determinations have been made under Article 13, including in respect of the United States. If Article 13 were to be removed entirely, substituted compliance for margining would no longer apply. As many market participants rely on this provision to ensure compliance, the Parliament's position on the Commission's proposed approach will be welcomed.

The Parliament's report also proposes a further amendment to the text of Article 13, so that substituted compliance is available where one of the counterparties is established in or subject to the equivalent requirements of an "equivalent" third country. This proposed change will be viewed positively by market participants, as the original Article 13 wording is considered too narrow because it does not capture entities that, while not being established in a particular jurisdiction, are nevertheless subject to the rules of that jurisdiction – for example, by reason of group consolidation.

Conditional clearing exemption for PTRR transactions

In its report, the Parliament suggests introducing a "targeted⁴" exemption from the clearing obligation for post-trade risk reduction (PTRR) transactions, where both counterparties agree that the transactions should not be submitted for clearing.

Market participants and ISDA have for a long time requested that these types of transactions be exempted on the basis that (i) they are not "price-forming" and do not affect market risk, and (ii) the requirement to clear them disincentivises market participants from using portfolio reduction services. However, the exemption would be subject to a number of conditions, including a requirement for market participants to notify their competent authorities before applying the exemption and to provide a written explanation of how the other conditions would be fulfilled. It would also impose conditions on PTRR service providers, so this may not be the straightforward solution that had been hoped for.

If the proposal is adopted, ESMA will specify full details of the conditions in technical standards.

Right of veto of margin models

A further proposal would require in-scope entities to notify the EBA and the relevant competent authority of their intended initial margin models at least 60 working days before they are implemented. The EBA and the competent authority would then have the right to object to the model if it did not meet applicable criteria. In such case, the in-scope entity would need to move to a different model within one year of the objection, and would need to confirm when it had done so.

This amendment is based on a suggestion made by the ECB (discussed here).

Under the new provision, financial counterparties would also be required to report details of other "key information" relating to compliance with the risk mitigation requirements. The information to be reported would be specified at a later date under technical standards.

Amendments to increase clearing in the EU

These proposed amendments have three overarching objectives:

1. to increase the demand for clearing through EU CCPs;
2. to increase the attractiveness and the competitiveness of the EU clearing system; and
3. to establish an "adequate" supervisory framework.

Increase the demand for clearing through EU CCPs – active account requirement

The Parliament agrees that a good way to increase "demand" for EU CCP clearing services would be to introduce the Commission-proposed active account requirement (AAR). To implement this, the Parliament suggests building on the ECB's phase-in proposal (discussed here), with a two-stage approach: an initial, qualitative, phase; and a second, quantitative, phase. The second phase would only be implemented if the first phase did not sufficiently mitigate the perceived financial stability risks, and not for at least 18 months after the introduction of phase one.

Under phase one, in-scope EU entities would need to "regularly" enter into new positions via an EU CCP and conduct related margin exchanges on that exchange. The frequency of clearing would be determined by ESMA for different types of in-scope entities, in such a way so as not to significantly affect that entity's normal conduct of business. The requirement would not have retroactive effect.

If phase two were subsequently implemented, the EU would develop rules to specify the proportion of substantially systemic clearing services that in-scope EU entities would need to clear through an EU CCP.

The Parliament also proposes amendments to (i) clarify that the AAR calculation would apply on a group-wide basis, and (ii) implement the ECB proposal that in-scope entities calculate both relevant EU and non-EU clearing activity.

The Commission's original proposal also required calculating entities to report the outcomes of their calculations to the relevant competent authority. Acknowledging that this would add to market participants' already onerous reporting burden, the Parliament suggests that ESMA perform this calculation, using information received from other reports, and report the outcome to a joint monitoring body established for this purpose.

Removal of CDS from the active account requirement

In its original proposal, the Commission suggested that the AAR should apply to (i) euro or Polish zloty-denominated interest rate derivatives, (ii) euro-denominated credit default swaps, and (iii) euro-denominated short-term interest rate derivatives. In its report, the Parliament recommends removing euro CDS and adding instead a reference to categories of derivatives cleared by EU CCPs that are found by ESMA to be of significant systemic importance under Article 25(2c).

Increase the attractiveness and the competitiveness of the EU clearing system

In the Parliament's view, the best way to increase clearing through EU CCPs is to improve the environment and conditions such that market participants want to do so.

To achieve this, it proposes:

• streamlining the approval process for EU CCPs to expand their service offerings. Currently, the EU clearing market is inferior in depth and breadth to the UK clearing market, meaning that for certain products clearing through an EU CCP is not possible. If EU CCPs were more easily able to expand their scope, this would increase the possibilities available to market participants;
• building on the Commission's original "non-objection" procedure for EU CCPs looking to expand by introducing a new category of "business as usual" changes to a CCP's offering, which would not need regulatory approval; and
• introducing greater transparency for market participants around EU CCPs' margin models and related cost considerations.

Amendments to move the supervision of EU CCPs to ESMA

Finally, the Parliament recommends centralised CCP supervision through ESMA, to help monitor CCP risk concentration and to reduce differences in the interpretation of EU EMIR across the EU. This overlaps with objective 3 described above, to establish an "adequate" supervisory framework.

Next steps

The Council is also due to review the Commission's proposals and may suggest further changes. The Commission will then consider the changes suggested by both the Parliament and the Council and, if they are accepted, will present a revised draft proposal for review.

Once the revisions are finalised, the amending regulation will be published in the Official Journal of the EU and will come into force 20 days later. However, according to the current draft of the amending regulation, application of many of the substantive provisions will be delayed until a later date.

 

 

Footnotes

_{1. EU Regulation 2016/2251.}

_{2. ESMA, the EBA and EIOPA.}

_{3. The European Commission, the European Parliament and the Council of the EU.}

_{4. i.e. "heavily caveated".}