The federal agencies designated "prudential regulators" under Dodd-Frank (the Board of Governors of the Federal Reserve System, the Farm Credit Administration, the Federal Deposit Insurance Corporation, the Federal Housing Finance Agency and the Office of the Comptroller of the Currency) (collectively, the "Agencies") proposed amendments to conform their swap margin rules to the recently adopted rules restricting the cancellation rights of qualified financial contracts ("QFCs") in the event of certain resolution or bankruptcy proceedings (the "QFC Rules").
Under the Agencies' swap margin rules, "netting" is permitted for variation and initial margin for covered swaps and security-based swaps (collectively, "covered swaps"), provided that the covered swaps are subject to an "eligible master netting agreement." "Legacy" swaps entered into before the compliance date are not subject to the margin requirements, provided that they are not amended or novated.
Under the recently adopted QFC Rules, in certain circumstances, U.S. globally systemically important banking institutions ("U.S. GSIBs") will be required to insert contractual restrictions on default close-out rights into swap agreements in order to buttress the statutory stay powers of federal insolvency authorities over such U.S. GSIBs. Because these amendments were not contemplated in the swap margin rules, the Agencies now are proposing to amend the definition of "eligible master netting agreement" to harmonize it with the QFC Rules.
Under the proposed amendment, an agreement would not cease to be an "eligible master netting agreement" if it includes restrictions on close-out netting required to comply with the QFC Rules. The agencies are proposing that legacy swaps, subject to the agreements that are amended to conform to the QFC Rules, would not be new swaps captured by the swaps margin rule by virtue of the amendment.
Comments on the proposal must be submitted within 60 days of publication in the Federal Register.
Commentary / Jeff Robins
The proposal is a sensible but narrow correction to problems that were foreseeable when the swaps margin rule was adopted. Regarding legacy swaps, a number of commenters had requested that prudential regulators address circumstances under which such swaps could be amended or novated without being deemed new swaps (e.g., non-material amendments, amendments required by prior agreements, etc.). The regulators declined to do so, raising unconvincing concerns about evasion. The regulators' approach remains troubling given the difficulty of obtaining joint action to ameliorate problems after the fact. Now that the regulators are revisiting the issue, it would be reasonable to request a broader fix in line with commenters' earlier requests.
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