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EMIR 3 in terms of the core EMIR regulation – the most important bullet points based on the experience of KIEŁTYKA GŁADKOWSKI KG LEGAL in advising global clients in the Polish jurisdiction in the field of derivative instruments traded over the counter.
1. The essence of the EMIR regulation
EMIR (European Market Infrastructure Regulation (EU) 2017/1899 is a regulation of the Council of the European Union and of the European Parliament on over-the-counter (OTC) derivatives, central counterparties and trade repositories. The regulation aims to increase the safety and stability of financial markets in Europe and prevent financial crises.
2. The original version of the Regulation of 2012.
The context for the references in EMIR is the 2008 economic crisis, whose consequences proved severe for many European Union Member States. The regulation’s point of reference is Article 114 TFEU, which governs the convergence of internal markets. However, Article 114 does not apply to tax regulations, the free movement of persons, or the rights and interests of employees. It recommended strengthening oversight of the EU market, including through the creation of a European system of financial market supervisors responsible for the banking sector, the insurance and occupational pensions sector, and the securities and markets sector. The regulation requires all derivatives, both exchange-traded and over-the-counter, to be transferred to a trade repository. One of the objectives of the 2012 regulation is to mitigate systemic risk, including through increased regulation of clearing and trading. The legal provisions regarding limited risk apply bilaterally and also cover non-EU countries.
3. EMIR Refit of 2019 amending the original regulation
The 2019 regulation partially amended the 2012 EMIR regulations with respect to the clearing obligation, its suspension, reporting requirements, risk mitigation techniques related to OTC derivative contracts not cleared by a central counterparty, the registration and supervision of trade repositories, and requirements for trade repositories. Amendments to the 2012 regulation also address definitional issues, including a broad definition of a financial counterparty, which can include, for example, a credit institution, an investment firm, or a central securities depository. The main differences between the original EMIR and the 2019 regulation include changes in access to reported data, aimed at facilitating supervision and risk analysis by supervisory authorities. The regulation changed the scope of reporting obligations, standardizing data formats and expanding the scope of reporting entities. The new regulation also aimed to provide a more proportionate approach to regulation, particularly in the context of small and medium-sized enterprises. Moreover, over the past 7 years, market conditions have changed, and new regulations have been adapted to these changes.
4. EMIR 3 regulation
EMIR 3 introduces changes to the original regulation. The changes stem from a renewed need to increase the security of EU central counterparties (CCPs) to mitigate excessive reliance on systemically important CCPs from third countries. One of the most important changes is the requirement to maintain an active account with an authorized central counterparty within the European Union and to clear a representative number of interest rate derivatives transactions through this account in Polish złoty and euro. In addition to these regulations, EMIR 3 expands the scope of obligations regarding stress testing and reporting to the Polish Financial Supervision Authority. The primary goal of the amendment to the original EMIR is to increase the security and stability of the derivatives market by reinforcing oversight of these instruments.
4.1 Active Account Requirements
Account activity requires that at least one EU-authorized account be active and that at least a representative number of transactions on the active account be settled. The Regulation specifies the necessary operational conditions for an active account to be functional, as documented in legal documentation, and to have IT connectivity. The counterparty must also have systems and resources that prevent it from operationally using the active account. All new transactions of the counterparty in derivative contracts falling within the automatic reconciliation category (AAR) can be settled in the account at any time. These operational conditions must, at a minimum, be stress-tested. Counterparties subject to AAR are required to report by calculating their activities and risk exposures in terms of the AAR. They must provide the competent authorities with the information necessary to assess compliance with the AAR every six months, including, where necessary, the representativeness obligation. Where appropriate, information contained in the report submitted pursuant to Article 10 of the Regulation must be used. 9 of EMIR, and also demonstrate in the report that the legal documentation, IT connectivity, and internal processes related to active accounts comply with the requirements. The regulations stipulate that counterparties subject to AAR that have already cleared at least 85% of their derivative contracts will be exempt from the operational conditions and aspects of the AAR reporting requirement.
4.2 The subjective scope of the active account requirement
The requirement to have an active account applies to both financial and non-financial counterparties subject to the clearing obligation under EMIR and exceeding the thresholds in any AAR category. To determine whether an entity is subject to the AAR, it must first be subject to the clearing obligation under EMIR. Furthermore, the trading must involve OTC interest rate derivatives denominated in euro or Polish zloty, or involve short-term interest rate derivatives denominated in euro, and must exceed the clearing threshold of three billion euros individually or collectively for all types of transactions covered by the scope. Within six months of the regulation’s entry into force, technical standards for active account requirements will be defined. The obligations stipulated in the regulation will apply to counterparties subject to the central clearing obligation that are clearing members from a third country and that exceed the clearing threshold in any instrument subject to the clearing obligation through an active account.
4.3 Transaction settlement rules
Transaction clearing covers activities of derivatives counterparties within the meaning of EMIR, who are required to report the transaction to a repository (i.e., entities registered under EMIR, up to and including the transaction date for financial and non-financial counterparties, and up to the end of the second business day following the transaction’s conclusion for non-financial counterparties whose trading activity in financial instruments does not exceed the regulatory thresholds). If transactions are concluded outside of a regulated market, they must be cleared at a CCP (central counterparty). Transactions cleared exclusively OTC must employ appropriate procedures to mitigate credit risk. Confirmation of the transaction must occur within the timeframe specified in EMIR. The 2024 Regulation amends the 2012 Regulation. referring to the third article regulating intragroup transactions, defining intragroup transactions as OTC derivative contracts entered into with another counterparty that is a member of the same group, if both counterparties are fully included in the same consolidation and are subject to appropriate centralised risk assessment, measurement and control procedures, and that counterparty is established in the European Union or another third country that is not a high-risk country.
4.4 Margin Requirements
Counterparties should report all relevant types of collateral, providing values before and after reduction. The counterparty submits a report, determining the fixed value to be entered as the portfolio value. At the individual transaction level, initial margin and variation margin are posted for an uncleared derivative in accordance with the margin agreement. Compared to the original EMIR regulations, EMIR 3 increases the importance of transparency provisions for CCPs for participants providing clearing services and those providing such services to their clients. Central counterparties are required to disclose the performance of their margin to entities with whom they transact. This information should include margin model parameters such as the confidence level, the lookback period, the liquidation horizon, and the risk that encompasses the model’s elements. Central counterparties also provide clearing members with a list of key assumptions and constraints of the margin model, including a description of the events that will trigger a breach of the assumptions.
4.5 Requirements for the recognition of third-country systems
A new feature of EMIR regulations, introduced in its third regulation, is the exemption from the obligation to clear transactions with third-country pension systems. The systems must be recognized under the law of their country, authorized and supervised, provide pension services, and not pose a threat to the financial stability of the European Union. Referring to the previous provisions of EMIR 3, the obligation for transactions with third-country pension systems is for these participants to hold an active account. The exemption from transactions with third-country pension systems is intended to facilitate cross-border transactions.