Single-sided reporting for Phase 3B and movement on mandatory clearing

• ASIC and Treasury have released consultation papers on single-sided reporting relief and mandatory clearing of OTC derivatives.
• Single-sided relief will be available for reporting entities which hold a total gross notional outstanding position of A$5 billion assessed at the end of each quarter, for two consecutive quarters. These are likely to be Phase 3B reporting entities.
• Mandatory clearing of certain OTC interest rate derivatives will apply for entities with over A$100 billion of notional OTC derivative exposures.

What you need to do

• Consider if you can take advantage of the single-sided relief and put in place procedures to ensure you can continue to do so.
• Consider whether you will be caught by the mandatory clearing regime by assessing whether the relevant clearing thresholds will be met.
• Keep a look out for the final form of the regulations and rules.

The implementation of Australia’s G20 commitments continues with consultation packages released by both Treasury and the Australian Securities and Investments Commission (ASIC) on 28 May 2015 on derivatives transaction reporting and mandatory clearing.  Whilst the bulk of the materials revolves around mandatory central clearing requirements, included in the Treasury’s consultation is the long-awaited single-sided reporting relief for Phase 3B reporting entities that must commence reporting in October 2015.

Single-sided reporting

What is single-sided reporting?

Single-sided reporting is where only one party an OTC derivative transaction is required to report the transaction under the Derivative Transaction Rules (Reporting) (Reporting Rules).  In the absence of single-sided reporting relief, the Reporting Rules require both parties to an OTC derivative transaction to report the transaction.

Who does the relief apply to?

The single-sided reporting relief will apply to Phase 3 reporting entities whose notional exposures remain below the A$5 billion threshold for two consecutive quarters.  This is particularly relevant to the Phase 3B entities, who become subject to the Reporting Rules for the first time on 12 October 2015.  Phase 3B entities are those with less than A$5 billion gross notional outstanding OTC derivative positions as at 30 June 2014.

To qualify for the single-sided reporting relief, a Phase 3 reporting entity (which may be a Phase 3A or 3B reporting entity) must have a total gross notional outstanding position of less than A$5 billion, as assessed at the end of each quarter, for two consecutive quarters.  Conversely, the reporting entity who qualifies for the relief will only lose the relief if they remain above the A$5 billion threshold for two consecutive quarters

What transactions are covered by the relief?

The basic premise of single-sided reporting is that the other side of the transaction is required to report the trade.  The draft regulations therefore contemplate that the relief will apply in three specific scenarios, namely, where the other party to the transaction is:

• an entity required to report information about the transaction under the Reporting Rules – eg, Phase 1, Phase 2, and Phase 3A entities;
• an entity that is otherwise reporting information about the transaction in accordance with the Reporting Rules; or
• a foreign entity that is relying on the alternative reporting regime provided under the Reporting Rules where the entity reports the relevant transaction to an offshore prescribed repository and “tags” the information reported as information that is taken to also have been reported under the Reporting Rules.

Where an OTC derivative transaction is between two Phase 3 reporting entities, and both would claim to be entitled to rely on the single-sided reporting relief, then the parties will need to agree which of them will report the transaction.

When is the relief effective?

Currently the relief is only in draft form. Consultation closes at the end of June, and we expect the final form of the regulations shortly thereafter.  It is indicated that the relief will commence in October 2015, prior to Phase 3B implementation.

Mandatory clearing

Mandatory clearing of interest rate derivatives denominated in Australian dollars, US dollars, Euro, Japanese yen and British Pounds (the G4 currencies) is imminent as Treasury released a draft ministerial determination and ASIC released a draft of the ASIC Derivative Transaction Rules (Clearing) 2015 (Draft Clearing Rules) to give effect to this initiative.

Who is subject to mandatory clearing?

Mandatory clearing is intended only to apply to the financial institutions with the largest OTC derivative exposures.  Under the Draft Clearing Rules, the following institutions will be subject to mandatory clearing obligations:

• an Australian authorised deposit-taking institution (ADI) or Australian financial services (AFS) licensee that is incorporated or formed in Australia whose derivatives activities meet or exceed the clearing threshold of A$100 billion or more of total gross notional outstanding of OTC derivatives for two consecutive quarters (Australian Clearing Entity);
• a registered foreign body under Part 5B.2 of the Corporations Act, that is an ADI, AFS licensee or exempt foreign licensee, and whose derivatives activities meet or exceed the clearing threshold of A$100 billion or more of total gross notional outstanding of OTC derivative positions that are entered into in Australia, or booked to the profit-and-loss account of a branch in Australia, for two consecutive quarters (Foreign Clearing Entity); or
• the entity that is acting in the representative capacity in conducting transactions in relation to a trust or registered scheme (ie, trustees or responsible entities).

How is the threshold calculated?

The A$100 billion threshold is calculated for each legal entity (i.e. no aggregation of clearing threshold across corporate groups).

In the case of a scheme or trust, the threshold is calculated for each scheme or trust.

The OTC derivatives exposures to be included in the calculations are not confined to those that are subject to the mandatory clearing requirements – it includes all OTC derivatives (ie those that are not traded on a financial market or regulated foreign market).

There are also opt-in provisions available for Australian or foreign entities that do not exceed the relevant A$100billion threshold.

Which transactions are subject to mandatory clearing?

The four types of “Clearing Derivatives” which are subject to the clearing requirement are fixed-to-floating swaps, basis swaps, forward rate agreements and overnight index swaps.  There are also some carve-outs in respect of Clearing Derivatives with features such as optionality, multi-currency or conditional notional principal amount. Only Clearing Derivatives which are denominated in Australian dollars, US dollars, Euro, Japanese yen and British Pounds are the subject of the draft ministerial determination.

It is proposed that the clearing requirements will only apply to transactions in Clearing Derivatives  entered into between:

• two Australian Clearing Entities;
• an Australian Clearing Entity and a Foreign Clearing Entity;
• two Foreign Clearing Entities, where a branch of a Foreign Clearing Entity has booked the trade in Australia, entered into the trade in Australia or, if it has opted-in to the nexus test, conducted a “nexus derivative” (ie, based on the location of salespersons or traders performing particular functions in relation to the OTC derivative);
• an Australian Clearing Entity and a “foreign internationally active dealer” (ie, entity that is registered or provisionally registered as a swap dealer with the US Commodity Futures Trading Commission or as a security-based swap dealer with US Securities Exchange Commission); and
• a Foreign Clearing Entity and a foreign internationally-active dealer, where the Foreign Clearing Entity has booked the trade in Australia, entered into the trade in Australia or, if it has opted-in to the nexus test, conducted a nexus derivative.

Clearing must be undertaken by T+1.  Exemptions to mandatory clearing also include intra-group transactions, and transactions that result from multilateral trade compression.

Alternative clearing

Similar to the alternative reporting regime, the Draft Clearing Rules also provide alternative clearing where both Australian and foreign clearing entities can comply with their clearing requirements by clearing in accordance with clearing requirements in a foreign jurisdiction, subject to certain conditions.

The conditions to alternative clearing are:

• the clearing entity or its counterparty must be subject to clearing requirements in another jurisdiction;
• the foreign clearing requirements must require the relevant derivative transaction to be cleared no later than T+3;
• a clearing entity must ensure the derivative transaction is cleared no later than T+3; and
• a clearing facility used to comply with foreign clearing requirements must be a licensed clearing and settlement facility or a prescribed central counterparty.

When does mandatory clearing commence?

The commencement date is currently set to be 4 April 2016, with the clearing threshold calculated as at 30 September 2015 and 31 December 2015.

Consultation on the Draft Clearing Rules close on 10 July 2015.  The final rules should be made shortly thereafter.