With Initial Margin Rules Final Let the Training Begin

Initial Margin Rules Finalized

The past few years we’ve spent implementing derivatives reform.  Firms purchased software, hired CCPs and participated in compression processes.  This year a regulations will continue to become effective. Like the new rules on Initial Margin for Bilateral (OTC) Derivatives were recently finalized.  There are two good sources for information on the final margin rules:  Sidley’s Derivatives Update dated January 20, 2016 has a summary and a pdf with details.   If you’d rather read a concise overview DLAPiper issued a press release here.  With Initial Margin Rules final, let the training begin.  

Silo vs Value Chain Structure

On February 24, 2016 Derivsource published a blog by Olivier Grimonpont Dealers Prepare As Initial Margin Deadline Looms” about the new margin rules coming into effect in September 2016. But what interested me even more were statements about silo structure versus the need to value chain training.

Yep….right there …. Around 2 paragraphs down, Mr. Grimonpont writes:

“…The different departments within the bank will need to establish effective communication channels with each other, which may be a new scenario for some firms.  Traditionally, many top tier firms have been operating in a silo-based structure where OTC derivatives and collateral were managed independently from one another. In the new world however, OTC derivatives and collateral need to work closely together.”

Like a manna from heaven.  The skies opens, light streams through the clouds as angels hit that secret chord … that David played and it pleased the Lord (random Leonard Cohen reference).  I’m going to stop before Julia Schieffer invoices me for advertising.

All kidding aside, I’m happy to see other Derivatives Service Providers echoing my views.  The past few years institutions have invested time & money implementing Dodd Frank (Title VII).  With much of the heavy lifting behind us, it’s time for Integrated (Value Chain) Training.

Integrated Training is a blended learning program MHDS developed in response to client needs post-implementation.  The goal of value chain taining (as opposed to intra-silo training) are quicker problem resolution, double checks that proper redundancies are in place and each silo understands the impact of regulatory reform on their function.

The Silo Structure

Most Financial Institutions (buy & sell side players) have a silo organizational structure.  There’s good reason for silo’s. Silo’s separate functions and reporting lines which create a layer of checks and balances necessary in a Self-Regulatory-Organization.

For example,

The middle office and trading desk mark OTC derivatives books to market independently using different data sources.

The middle office will get rates for their MTM swap & option curves (swaptions and caps) from 3 different sources.

The trading book will receive checks against their own observation from interdealers brokers.

But silo’s have a downside when it comes to hedging risk.

Risk isn’t viewed in aggregate until you reach the consolidated reporting level.

One unit could be long physical gold, another unit could be short gold derivative contracts. Net, the company is flat, but if each unit operates independently, each position is managed separately.

initial margin integrated Training

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When wholesale changes are made to a business, impacting every part of the value chain, cross function training is important so that each silo understands the changes made in their silo relative to other silo’s.

Derivatives Value Chain

An Institutions relationship with a new client (Post Dodd Frank) who will not be submitting trades to a CCP, will enter into Bilateral Contracts.  The relationship begins in the derivatives area or in the origination areas (Debt & Equity Issuance, Bank Loans, Securitization & Project Finance).  In either case, the Derivatives salesperson leads the charge by performing all of the required KYC and AML research before handing the client off to Legal, Docs & Credit to get the client setup to transact.

initial margin integrated training

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Derivatives Value Chain Training

MH Derivative Solutions, LLC offers clients a unique program which includes real time examples and a blended learning process which keeps participants interested.  Having grown up in the derivatives market McCabe seen the business grow, stumble and change.  Having worked on both buy side and sell side, she understand their respective operations.  This depth of experience means she knows the function of every silo along the deriatives value chain.

Goals of Derivatives Integrated Training

The goals of Integrated (Cross) Training is that each silo has greater understanding of the entire value chain.  Particularly since the derivatives value chain has changed completely since 2010, Integrated Training is essential for smooth operations throughout the value chain.  The Organization is still structured in silos and their reporting lines remain unchanged.

The Diagram below shows a typical derivatives workflow where Derivative Sales is the point person for derivatives with the client.  Different organizations will have a different workflow.  But generally, the salesperson is responsible for KYC (Know Your Customer) and AML (Anti-Money Laundering) regulations.  A good senior salesperson is the first line of defense, protecting their institutions.  But the Sales & Trading areas count on many other operational and technology areas of the institution.

Initial Margin Rulles Final Time to Train

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At the end of Integrated Training, each functional silo will know the derivatives value chain from start to finish and have a greater understanding of:

Their role in the value chain

The role of other functional Silos with respect to derivatives

Reasons why your institution made the decision it did with regard to reform regulations.

The depth of understanding of each individuals role within the value chain helps institutions provide better service to their clients because each functional silo can incorporate other areas.  Better serviced clients are happy clients.  And happy clients…DO BUSINESS!

Marketing Serendipity

I wanted to give a hat tip to DerivaSource and Mr. Grimonpont’s blog to illustrate like minds among derivatives service providers.  It wasn’t meant to be a marketing pitch.  But it sure does look like one.  Well, if it quacks like a duck… Make Duck L’Orange.

The take aways for 2016 are:

While implementation continues start educating all silos on new systems and workflow processes.  Since these system reside in different silo’s Integrated Training has also assisted firms to determine how they can get to Straight Through Processing (STP).

By educating each functional area they can troubleshoot problems quickly; ensure redundancies exist and be able to coordinate quickly as the regulators make changes in the future.  Finally, it will give the more creative people the chance to resolve some of the remaining issues or disconnect still being handled by hand.  It’s win-win.

Initial Margin integrated Training

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Final Thought

Globally Derivatives Regulatory Reform is uneven at best.  It may be sometime before the entire globe is working with the same margin levels and capital charges.   Integrated Training is not static.  Rather, it’s a dynamic process where new changes are incorporated as they become final.

Well, that’s it for me.  I’m going to go out into a glorious spring-like afternoon and enjoy the day and hope you do the same.  If you’d like to know more about Integrated Training, contact MHDS.








FOOTNOTE*1: Credit Lines an important part of a trading relationship.  Even though initial margin will be posted and contracts will be marked-to-market daily, there is still counterparty risk.  Concentration Risk, Key Person Risk, Operational Risk to name a few.



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