THE IMPACT OF EMIR IS YOUR ORGANISATION READY?

THE IMPACT OF EMIR IS YOUR ORGANISATION READY? November 2013

Introduction to EMIR EMIR is part of the G20 commitments to prevent future financial crises Both the European Union and the United States have committed to drafting new rules in order to reduce counterparty, operational and systemic risks related to OTC derivative transactions. e G20 Agreements e G20 Members have pledged to draft new national and international rules to safeguard the following: Stronger capital bases Increased transparency Reduced systemic risk For OTC Derivatives this includes the following: Mandatory clearing of standardized OTC derivatives contracts Transaction reporting to trade repositories Electronic trading on exchange like platforms Higher capital requirements for uncleared trades Regulation Transparency / Systemic Risk: Stronger Capital base: EMIR MIFID II Dodd-Frank Act Basel III 1

EMIR at a glance Key elements include transaction reporting and mandatory clearing Main elements of the European Markets Infrastructure Regulation (EMIR) Reporting Obligation All counterparties to exchange traded and OTC derivative transactions must ensure that the details of any derivate contract they have concluded and any modification or termination of that contract are reported to a registered trade repository. Reports are to be submitted in a standardized format. e details of a contract must be reported no later than the working day following the conclusion, modification or termination of the contract. Mandatory Clearing Obligation to clear all standardised OTC Derivative contracts. e clearing obligation will become effective on a product-by-product (asset class) basis, to be advised by European Securities and Markets Authority (ESMA) after public consultation. Front loading requirement for existing contracts with remaining maturity. Non-financial counter parties are subject if they breach the clearing threshold. Risk-mitigation for non-centrally cleared trades It is required to implement additional risk mitigation requirements for OTC derivatives not subject to mandatory clearing. ese include: Timely confirmation of transactions Portfolio compression Portfolio reconciliation Daily marking-to-market/model Dispute resolution procedures 2

Applicability and scope EMIR applies to both financial and non-financial counter parties EMIR entered into force on the August 16, 2012. e technical standards drafted by ESMA entered into force on March 15, 2013. e full implementation of the rules will be finalised around the technical standards drafted by ESMA. As a regulation, EMIR has direct effect in the EU Member States. ILLUSTRATIVE TYPES OF COUNTERPARTIES EXAMPLES OF COUNTERPARTIES DERIVATIVE CLASSES Financial Counterparties (FC) Banks Asset Managers Insurers Credit Derivatives Commodity Derivatives Non-Financial Counterparties Plus (NFC+) Corporate Treasuries Utilities Airlines Equity Derivatives FX Derivatives Non-Financial Counterparties (NFC) Small Enterprises Medium enterprises Interest Rate Derivatives 3

e implications of EMIR are significant It affects all market participants involved in derivative transactions Implications of EMIR As described, for non-financial counterparties exemptions exist for clearing, daily mark-to-market and initial and variation margin. EMIR Obligation FC NFC+ NFC 1. Reporting 2. Clearing 3. Risk Mitigation Reporting Clearing Daily mark-to market/mark-to-model Timely confirmation Portfolio reconciliation Portfolio compression Dispute resolution Initial and variation margin x x x Specific requirement for non-financial counterparties Non-financial counterparties are subject to less stringent rules than financial counterparties. See table on the right. Contracts by non-financial counterparties below the clearing threshold are not subject to mandatory clearing by a CCP. When the threshold is exceeded, all future OTC derivatives are subject to the clearing obligation. Contracts intended to mitigate commercial risk (hedging) are excluded from the threshold. Clearing resholds (EUR Billion) Credit Derivatives Equity Derivatives Interest rate Derivatives FX Derivatives Commodity and other Derivatives 4

EMIR substantially alters OTC derivative value chains It adds a range of additional steps to the process Key Changes Old Value Chain Old Value Chain Bilateral Medium (phone / single dealer platform) Organised Trading Facility Bilateral Medium (phone / single dealer platform) Affirmation Platform (e.g. MarkitWire) Affirmation Platform (e.g. MarkitWire) Clearing Broker Clearing Broker Clearing Broker No clearing CCP CCP Trade Repository 5

All derivative transactions have to be reported ese include all over-the-counter (OTC) and exchange traded products e Reporting Obligation Who? All counterparties (financial and non-financial). is means the legal entity that enters into a transaction e reporting obligation may be delegated to the counterparty or a third party e delegating counterparty retains the responsibility for reporting the correct data When? No later than the following working day What? ESMA has drafted a standard reporting format which includes counterparty data and common data With whom? All trade repositories have to be registered and licensed by ESMA Elements of the Reports Counterparty data Common data Counterparty details Name & domicile Financial/Non-financial Broker ID Reporting entity ID Clearing member ID Beneficiary Trading capacity Side (buyer/seller) EEA/non-EEA Direct link to commercial activity / treasury Clearing threshold Mark-to-market value Valuation time, date and type Collateral Collateral portfolio, code and value Currency of collateral Contract type Details of the transaction Risk mitigation (confirmation details) Clearing details Interest rates (if interest rate derivative) FX (if FX derivative) Commodities (if commodity derivative) Option details (contracts containing an option) Modifications to the report 6

Selected derivative contracts will have to be cleared e mandatory clearing obligation further explained Clearing obligation procedure per product class Step 0 (one-off) Step 1 a Step 2 Step 3 Step 4 Step 5 ESMA develops criteria for eligibility determination Competent authority in member state authorizes CCP to clear derivative class Step 1 b ESMA notified about decision ESMA conducts public consultation ESMA proposes: e class of OTC derivatives subject to clearing Date in which obligation takes effect Minimum maturity of contracts to be front loaded European Commission decides on clearing obligation ESMA updates the register of derivatives subject to clearing on its website Maximum of 6 months between 1a and 3 Relevant Provisions Clearing and Central Counterparties (CCP) All financial counterparties are subject to clearing Pension funds are exempted for three years Non-financial counterparties are only subject to the clearing when they exceed the clearing threshold CCPs are an intermediary between the transacting parties. Clearing requires the following steps: Counterparties agree contracts; Counterparty contracts with its clearing member; Clearing member contracts with the CCP CCPs must be authorized by ESMA Group supervision An additional layer of supervision on consolidated level in addition to individual supervision on insurers, to mitigate systematic risk. 7

Additional risk mitigating measures are required When contracts are not centrally cleared by a central counterparty Risk Mitigation measures Timely To ensure confirmation that transactions are concluded, confirmations are required to provide for (written) acknowledgment that a trade has been executed. Counterparties are required to confirm transactions within the timeframe set out in the table, where available by electronic means. Portfolio reconciliation To ensure the accuracy of the mutual exposures, reconciliation of portfolios is used to determine whether the mutual exposures match. ese agreements must be made before entering into the contract and may differ depending on the classification of the counterparty. Dispute resolution In the event that counterparties are in disagreement counterparties shall agree on procedures for identification, recording and monitoring of potential disputes. Specific arrangements are required in the event that disputes may not be resolved within five business days. Portfolio compression To reduce the overall notional size and number of outstanding derivative contracts, portfolio compression is used to manage counterparty exposures and release capital. Counterparties are required to agree on arrangements to analyze the possibility to conduct a portfolio compression exercise at least twice a year. Daily mark-to-market / mark-to-model Daily mark-to-market is a method for the realistic appraisal of the value of outstanding derivative contracts. It measures the fair value of outstanding contracts (with FC and NFC+) through daily mark-to-market valuation and report these values to trade repositories. Timely confirmation* FC & NFC + : Confirmation deadline for all types of derivatives is T+1 NFC: Confirmation deadline for all types of derivatives is T+2 Portfolio reconciliation frequency depending on contracts outstanding FC & NFC + : Daily if > 500 contracts Weekly if 51-499 contracts Quarterly if < 50 contracts NFC Quarterly if > 100 contracts Annually if < 100 contracts * Phased compliance until August 2014 8

Key elements of EMIR enter into force in 2013 e implementation will continue until summer 2014 Estimation of EMIR Implementation Aug '12 Mar '13 Apr '13 Aug '13 Sep '13 Feb'14 Mid 2014 August 16, 2012 EMIR effective record keeping requirements Clearing March 15, 2013 Effective date technical standards One Month Later Deadline to notify ESMA of derivative classes already cleared by CCPs Six months later Deadlinefor CCPs to apply for authorisation Existing CCP's need to be compliant with CCP requirements Max Six months after CCP applies for authorization CCP authorised by ESMA ESMA to start public consultation about clearing obligation Six months later ESMA proposes: Types of contracts to be cleared Effective date Frontloading requirements Reporting February 12, 2014 Effective date Reporting obligation Risk Mitigation Immediately Timely confirmation MtM requirements Requirements on intragroup transactions Six months later Portfolio reconciliation Portfolio compression Dispute resolution As of 2015 Margin requirements for uncleared swaps 9

EMIR requires comprehensive transaction reporting ereare Option 1: Counterparties report independently During lifecycle Trade Executed Counterparty Data Common Data Trade Repository(ies) Daily Valuation * * Only for FC and NFC+ To be reported by both counterparties To be reported by one party only Option 2: Reporting on behalf of your counterparty During lifecycle Trade Executed Counterparty Data Common Data Trade Repository(ies) Daily Valuation * * Only for FC and NFC+ To be reported by both counterparties To be reported by one party only Procedure Both parties are responsible to report both common and counterparty data to a trade repository is is required even when both parties report to the same trade repository Both counterparties submit daily MtM valuations to a trade repository A Unique Trade Identifier(UTI) needs to be agreed and submitted by the counterparties Procedure One counterparty can report the common data behalf of both counterparties e counterparty data still has to be submitted by both counterparties One FC may report the daily valuation of the other if this has been agreed at board level beforehand e reporting party will then be responsible for the correctness of all the valuations submitted 10

Selected project work (1/2) e implementation will continue until summer 2014 Project Management EMIR/Dodd-Frank Implementation at large international bank Client Question Our client, a large Dutch bank with presence in the United States asked us for assistance with the implementation of Dodd-Frank and EMIR. Key element was a reporting framework for buy-side clients and end-users, including a reporting tool to interface with applicable Front office systems. Role & Approach An integrated project organisation was established, in which work streams were defined for Trade Reporting, Clearing, Compliance, Margin and Collateral, Risk Management, Business Conduct and Swap Dealer registration (Dodd-Frank). Each work stream was given the task to, where possible, develop a solution that covered both the requirements of Dodd-Frank and EMIR. At a central level, a rule management function was established, supported by legal expertise for each jurisdiction. e task of rule management was to convert legislative texts into actions and requirements for the work streams. Techniques Used e knowledge and experience of Synechron in the field of Dodd-Frank and EMIR has resulted in a project organisation in which a helicopter view was continuously held on the developments in both jurisdictions in order to ensure working on integrated solutions. A tight process has been designed to centrally define and periodically validate assumptions and requirements. Result A transaction reporting tool was successfully developed by Synechron to interface between the applicable Front office systems and the trade repository based on both legal requirements and business needs.. Synechron proved to be an important link between the various departments involved including legal, compliance, risk, markets front and back office and client services. Our client is currently compliant with the first requirements of Dodd-Frank and EMIR. 11

Selected project work (2/2) e implementation will continue until summer 2014 Program Management Reporting Solution DFA/EMIR/HKMA at a large international bank Client Question Our client, a large international bank with global coverage, asked us to coordinate the overall programme management of the adoption of a comprehensive reporting solution for reporting obligations under Dodd-Frank, EMIR and HKMA. Role & Approach e client has opted for the development of an in-house reporting solution which forms an interface between the applicable front office systems, the back office and the trade repository. We were directly involved from the initiation phase of the project and plays a leading role which includes: Overall program management and responsibility for delivery on compliance deadlines Coordination between different stakeholders including Front Office, Back Office, IT and the Trade Repository Translation of business requirements into operational processes Techniques Used e main focus of the project is the go-live of the reporting model solution in line with the various compliance deadlines. is will take until approximately March 2014. is includes the running of an effective project organisation, setting up internal processes, coordination with relevant stakeholders and training of internal staff to ensure that the solution is solidly embedded in the organisation. Result e client is compliant with the first Dodd-Frank reporting requirements and is in the process of becoming compliant with the first EMIR deadlines for the reporting of OTC derivatives by Q1 2014. 12

How our expertise in regulatory change can help Ranging from impact assessments to implementation Considerations for markets participants A thorough assessment of the impact of EMIR may be required on: Operational Readiness Changes in the OTC derivatives value chain Internal policies, procedures, Business Conduct Consequences for non-financial counterparties Selection of trade repositories/ Clearing membership How Synechron can help Specialist consultancy for the financial services industry Solid track record with the strategic, practical, organizational and technological implementation of international and European regulation at leading financial institutions Particularly strong expertise in OTC derivatives clearing processes orough insight in legal and regulatory developments through continued training, development and thought leadership Ability to translate regulatory challenges into practical solutions and support a comprehensive implementation Synechron Regulation Practice Joris Hillebrand Practice Lead +31 6 11 64 95 65 Selwyn Halbertsma Senior Consultant +31 6 24 69 74 93 Joris Hillebrand Practice Lead +31 6 11 64 95 65 13

APPENDIX Other upcoming international regulation 14

ereare various other upcoming regulatory reforms Such reforms are likely to affect your business as usual Overview of (upcoming) international legislation FATCA (US) Foreign Account Tax Compliance Act to prevent tax evasion by US investors Timeline: 2013 and onwards AIFMD (EU) Enhanced investment rules and requirements for non-ucits funds Applicable to EU-based hedge funds and private equity Timeline: July 2013 UCITSIV/V/VI (EU) Revisions to UCITS framework with requirements on product rules, liquidity management, depositary and money markets Timeline: 2014 and onwards Dodd-Frank Act OTC derivative clearing/reporting and business conduct requirements Timeline: 2011 and onwards Financial Institutions FTT (EU) Proposed tax by number of EU Member States and Commission to tax transactions in equities and derivatives Timeline: uncertain MiFID/R II (EU) Revision of MiFiD Includes requirements for onexchange trading of derivatives / stricter sales & transparency rules Short Selling(EU) Ban on uncovered structured CDS, stricter rules for short selling and duty to report short positions Timeline: November 2012 and onwards Securities & Futures Act 2012 Singapore legislation on OTC derivative clearing/reporting and business conduct requirements Timeline: Q3 2013 Securities & Futures Act 2012 Singapore legislation on OTC derivative clearing/reporting and business conduct requirements Timeline: Q3 2013 Financial Instruments Exchange Act Japanese legislation on OTC derivative clearing/reporting and business conduct requirements Timeline: 2012/2013 15

ese reforms include a reporting element With different data to be reported to regulators and other entities Overview of international reporting obligations, types and content Regulation Geography Reporting Type Required Content To whom? AIFMD EU/EEA Positions/ holdings Periodical reports for each of the funds managed Local regulator EMIR EU/EEA Transactions Counterparty, transaction and contract data, including lifecycle events Trade repositories UCITS EU/EEA Positions/ holdings Periodic overview of minimum capital requirement and financial statements / annual audited accounts Local regulator MiFiD II / R EU/EEA Transactions Details of transactions in all financial instruments in scope, including identity of the trader, client details and algorithm used Local regulator Short Selling EU/EEA Positions Net short positions Local regulator Dodd-Frank Global, affecting all transactions with Dodd-Frank US Persons Transactions Confirmation data, primary economic terms, lifecycle events, valuation data, notional & price information for real-time public dissemination Trade repositories Financial Transaction Tax (FTT) Limited number of EU Member States (tbd) To be decided; likely to include transaction reporting To be determined To be determined FATCA Global, affecting all US Persons under FATCA definition Client positions and accounts Information about financial accounts held by U.S. taxpayers or foreign entities US ownership US Internal Revenue Service (IRS) Securites and Futures Ordinance (Hong Kong Moneraty Authority) All trades with HK counter parties Transactions Details OTC derivatives transactions Hong Kong Trade Repository(HKTR) Securities & Futures Act (Singapore) All trades with Singaporean counterparties Transactions Transaction details, including lifecycle events Trade repositories Financial Instruments Exchange Act (Japan) All trades with Japanese counterparties Transactions Transaction details, including lifecycle events Trade repositories 16

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