On June 18, ISDA submitted a response to the Financial Stability Board’s (FSB) consultation on liquidity preparedness for margin and collateral calls.

The response notes that the recommendations are generally sensible and seek to incorporate a proportionate and risk-based approach. It also highlights a number of considerations relevant to the non-bank financial intermediation (NBFI) sector’s liquidity preparedness for margin and collateral calls.

First, due to the diverse nature of the NBFI sector, and the fact that many NBFIs and other non-bank market participants are already subject to financial and/or market regulation within their home jurisdictions, excessively prescriptive regulatory recommendations could, for a number of reasons, be inappropriate for all such firms across all geographies and market sectors.

Second, increased transparency in central counterparty margining practices, which has been addressed as part of the consultation on transparency and responsiveness of initial margin in centrally cleared markets from the Basel Committee on Banking Supervision, the Committee on Payments and Market Infrastructures and the International Organization of Securities Commissions, is a critically important aspect of liquidity preparedness and will help NBFIs and other market participants to better prepare for potential margin calls in centrally cleared markets.

Third, liquidity preparedness by NBFIs is dependent in part on banks’ balance-sheet capacity and the ability of banks to perform their intermediation function in core funding and lending markets. With that in mind, regulators should weigh how any restrictions on that capacity will affect the liquidity preparedness of NBFIs and other market participants.

Fourth, to further help with liquidity preparedness, ISDA encourages the FSB, standard-setting bodies and authorities to consider ways to support extending the range of collateral that can be used to meet margin requirements. Building flexibility into collateral arrangements through wider collateral eligibility would also reduce the reliance on other sources of liquidity.

Fifth, ISDA agrees that financial institutions such as clearing members and intermediaries in bilateral transactions should perform robust due diligence on all their counterparties. However, intermediaries should not be the conduit for oversight of their counterparties.

Sixth, ISDA draws attention to ongoing industry efforts to further automate and standardize collateral management, where appropriate, through various mechanisms including but not limited to ISDA’s collateral management suggested operational practices and the Common Domain Model.

Seventh, a number of key terms used in the consultation report may be interpreted ambiguously as they will likely mean different things to different types of NBFIs, standard-setting bodies and regulators. Inappropriate and ambiguous application of such terms could lead to an inconsistent regulatory framework, which could create competitive imbalances, regulatory arbitrage and inappropriately over-insure against liquidity risk, trapping too much cash or other highly liquid collateral, thus rendering it unavailable for investment in the real economy.

Finally, key data about derivatives activity and exposures is currently available to regulators in all major jurisdictions, due to mandated derivatives reporting requirements, via derivatives trade repositories that have been established over the past decade. ISDA support the FSB’s recommendation in its report on the financial stability implications of leverage to make “more intensive use of existing data, such as those available in trade repositories” and urges regulators to optimize their use of the data they currently receive before they consider imposing additional requirements.

Click the attached PDF to read the full response.