UK: Setting The Standard: ISDA Proposes A Standard Initial Margin Model For Non-Cleared Derivatives

Last Updated: 3 February 2014
Article by Guy Usher and Luke Whitmore


In September 2013, the Basel Committee on Banking Supervision ("BCBS") and the Board of the International Organization of Securities Commissions ("IOSCO") published guidelines on "Margin requirements for non-centrally cleared derivatives".  In December 2013, in response to these guidelines, ISDA published a paper proposing a standard initial margin model ("SIMM").  This briefing provides a brief outline of the BCBS-IOSCO guidelines and then looks at the SIMM proposal.       

BCBS-IOSCO guidelines

The BCBS-IOSCO guidelines are motivated by a globally perceived need in the light of the recent financial and economic crisis to reduce systemic risk from OTC derivatives.  They articulate a series of key principles and requirements relating to the provision of margin (both initial and variation) for non-centrally cleared derivatives, taking into account among other things the liquidity impact of the proposals and the availability of eligible collateral to meet margin calls. 

The guidelines set out eight key principles.  In brief these are:

1. Appropriate margining practices should be in place with respect to all derivative transactions that are not centrally-cleared1.

2.  All financial firms and systemically important non-financial entities ("covered entities")2 that engage in non-centrally cleared derivatives must exchange initial and variation margin3.

3. The methodologies for calculating initial and variation margin should (i) be consistent and reflect both potential future exposure (initial margin) and current exposure (variation margin)4 and (ii) ensure that all counterparty risk exposures are fully covered with a high degree of confidence5.

4. Assets collected as margin should be highly liquid and, after applying an appropriate haircut, should be able to hold their value in a time of financial stress6.

5. Initial margin should be exchanged by both parties on a gross basis and held in a such a way as to ensure that it is immediately available to the collecting party or posting party on a counterparty default/insolvency7.

6. Transactions between a firm and its affiliates should be subject to appropriate regulation in a manner consistent with each jurisdiction's legal and regulatory framework.

7. Regulatory regimes should be consistent and non-duplicative across jurisdictions8.

8. Margin requirements should be phased in over time9.        

BCBS-IOSCO intends to set up a monitoring group in 2014, which may result in changes or refinements to the principles set out above as well as the detailed requirements that flow from them. 

Standard Initial Margin Model - SIMM

In order to facilitate the introduction of the BCBS-IOSCO guidelines, ISDA has proposed a SIMM that could be used by market participants.  Its December 2013 paper notes that a common methodology would have several key benefits, such as permitting timely and transparent dispute resolution and allowing consistent regulatory governance and oversight.  It goes on to say that, in order to realise these benefits, agreement will be required between market participants and global regulators on a number of issues, including:

(1) general structure of initial margin calculations;

(2) requirement of initial margin to meet a 99% confidence level of cover over a 10-day horizon;

(3) model validation, supervisory coordination and governance;

(4) use of "Greeks" rather than full revaluations; and

(5) explicit inclusion of collateral haircut calculations within portfolio SIMM calculations. 

The paper deals with each of the aforementioned issues in turn, but not before setting out two important background factors - liquidity implications10 and dispute resolution11 - and listing the 9 criteria that a SIMM should satisfy.  These are as follows:

(i) non-procyclicality (the calculation of initial margin should not be linked to market levels or volatility but should be recalibrated periodically or at the behest of the global regulatory body);

(ii) ease of replication of initial margin calculations (necessary for effective dispute resolution);

(iii) transparency (again necessary for effective dispute resolution);

(iv) quick to calculate (to facilitate price quotation whenever a new trade is added to the portfolio);

(v) extensible (to facilitate the addition of new risk factors and/or products as required by the industry and regulators);

(vi) predictability (necessary to preserve consistency in pricing and for capital allocation purposes);

(vii) costs (to be reasonable, so as not to preclude access to the non-cleared markets);

(viii) governance (regulators to approve the risk factors within the model and to require periodic recalibration); and

(ix) margin appropriateness (to ensure that the calculation of initial margin does not result in a vast overstatement of risk when performed across a large portfolio and to ensure the recognition of risk factor offsets within the same asset class).

Turning now to the relevant issues:

1. General structure of initial margin calculations

The content of the paper here is mathematical and is concerned with the treatment of risk offsets within defined asset classes in the calculation of initial margin.  In this regard, the ISDA proposal for SIMM is seemingly at odds with the BCBS-IOSCO policy framework.  The discussion appears to centre on whether the assessment of offsets should only be made by reference to individual transaction types or should transcend individual transaction types looking at the individual risk factors comprised in and common to each.  ISDA is consulting with its members accordingly.         

2. Requirement of initial margin to meet a 99% confidence level of cover over a 10-day horizon

The significant point made here is that achieving the desired 99% confidence level presents challenges and that it is appropriate, in constructing the model, to focus the risk factor selection on portfolio types typically seen and to ignore specific edge-case and unusual portfolios.  The paper notes that the BCBS-IOSCO proposals are intended to reduce systemic risk, not necessarily the risk presented at the single entity level; and that where counterparties are presenting such unusual portfolios, and one has concern for the counterparty's performance, one may always require a higher initial margin.        

3. Model validation, supervisory coordination and governance

The paper notes that it is imperative for regulators to approve in advance what risk factors are to be used in the model or alternatively specify for what reference portfolios the model must assess adequate initial margin; and further to agree on a reference period (that includes a period of stress) for each asset class.  ISDA proposes to work with regulators to agree these benchmarks, noting that, without a common choice, a common model is not possible.  As already noted, the model must be extensible and preserve transparency in dispute resolution.  ISDA proposes that initial choices are agreed for a preliminary year and re-evaluated by regulators annually thereafter.         

4. Use of "Greeks" rather than full revaluations

The paper makes the technical point that, in order to ensure quick revaluations for pricing purposes whenever a new trade is added to the portfolio, initial margin is calculated based on the portfolio's "Greeks" - a proxy for a full revaluation.            

5. Explicit inclusion of collateral haircut calculations within portfolio SIMM calculations

As noted above, the BCBS-IOSCO proposals allow collateral haircuts to be determined on the basis of a quantitative model and ISDA proposes that the same model be used for both initial margin and for haircuts.        

The ISDA SIMM paper concludes with a proposal to develop a standardised model that meets the criteria considered earlier and that, once agreement has been reached on the issues touched upon above, is approved by regulators.

Implications for market participants

Development of a SIMM that can be used by all market participants will have beneficial cost implications and will ensure that entry to the non-cleared market will not be limited.  It will also significantly lower the liquidity impact of the BCBS-IOSCO proposals.  Availability of quality collateral will, however, still be an issue.

The BCBS-IOSCO proposals themselves will have several consequences, including:

(i) the calculation of the amount of initial margin to be posted on a group-wide basis,  taking account of the €50 million threshold, will require engineering at the level of trade confirmations and CSAs.  This may even necessitate some kind of framework document between all relevant parties.  ISDA's standard modification to CSAs to eliminate offset of independent amounts may also be employed to ensure that initial margin is posted gross as opposed to net.

(ii) resolution procedures at the level of CSAs may need revisiting to ensure that disputes over independent amounts can be quickly resolved, by reference to model as necessary.

(iii) CSAs and framework agreements will need to reflect the conditions on re-hypothecation considered at footnote 7.

(iv) custodian agreements will need to be put in place to the extent that custodians are used to hold initial margin.  It is worth mentioning that, in relation to the New York law CSA, ISDA has already published a number of pro-formas dealing with the segregation of independent amounts where custodians are involved.       


ISDA's proposed SIMM is just that - a proposal.  It will need refinement and agreement between regulators and industry before it can be translated into a working model in good time for 1 December 2015 (being the effective date for the exchange of initial and variation margin).  In the meantime, there is work to be done in the documentation arena - something that ISDA may or may not have on its radar.    


1 With some derogation in respect of (i) physically-settled FX forwards and swaps and (ii) cross-currency swaps.  Repurchase and stock-lending agreements are specifically excluded.

2 Sovereigns, central banks, multilateral development banks and the BIS are specifically excluded.  Note that the guidelines only apply where both parties are covered entities.

3 A maximum €50 million threshold, on a consolidated group basis, may apply to initial margin (compared to zero for variation margin – which must be exchanged on a regular e.g. daily basis.  If variation margin is exchanged less frequently than daily, this will increase the amount of initial margin required).  All margin transfers may be subject to a de-minimis transfer amount not to exceed €500,000.    

4 Initial margin protects the transacting parties from the potential future exposure that could arise from changes in the mark-to-market value of the contract during the time it takes to close out and replace the position in the event that one or both of the counterparties defaults. When provided on a portfolio basis, initial margin will change over time as transactions are added to or removed from the portfolio. Variation margin protects the transacting parties from changes in the mark-to-market that have already happened. It will change on a daily basis.    

5 The guidelines endorse the use by parties of both quantitative portfolio margin models (approved in all relevant jurisdictions, subject to ongoing validation and providing a 99% confidence level of cover over a 10-day horizon) and standardised margin schedules (one is provided at Appendix A to the guidelines) for the purposes of calculating initial margin. Initial margin models may account for risk on a portfolio basis provided that the underlying derivatives are subject to a single legally enforceable netting agreement and provided further that risk offsets reliably quantifiable by the model are limited to offsets within well-defined asset classes and not across such asset classes.  Counterparties may not switch between model- and schedule-based margin calculations in an effort to 'cherry-pick' the most favourable initial margin terms but may, on a consistent basis only, use a model for certain asset classes and a schedule for certain others. To mitigate procyclicality impacts, large discrete calls for additional initial margin due to "cliff-edge" triggers are discouraged. No initial margin will be required from a counterparty that has fully performed under a given transaction e.g. a premium payer under a fully-paid option. In relation to the calculation of both initial margin and variation margin, transacting parties are required to have robust dispute resolution procedures in place.               

6 In addition to having good liquidity, eligible collateral (e.g. cash, high-quality government and central bank securities, high quality corporate bonds, high-quality covered bonds, equities included in major stock indices and gold) should not be exposed to excessive credit, market or FX risk and should be reasonably diversified.  In addition, it should not exhibit a significant correlation with the creditworthiness of the counterparty (so own-issue securities would be ineligible) or with the value of the underlying portfolio. Haircuts should be applied on a conservative basis to avoid procyclicality and, as with the calculation of initial margin, may be determined on the basis of a quantitative model or a standard schedule (one is provided at Appendix B to the guidelines). 'Cherry-picking' is again to be avoided. Substitution is permitted and dispute resolution procedures should additionally be in place to govern disputes as to the value of eligible collateral.        

7 The guidelines advocate the use of third party custodians as the most robust means of protecting postedmargin and note that collateral arrangements should be effective under all relevant laws and supported by periodically updated legal opinions. Variation margin may be re-hypothecated.  Initial margin may only be re-hypothecated if received from a "buy-side" financial firm or non-financial entity and if used only for the purpose of hedging the initial margin collector's derivatives positions arising out of transactions for which the initial margin was collected.  Controls must be in place to ensure a one-time only re-hypothecation and collected collateral must be segregated from the initial margin collector's proprietary assets.  Various other conditions to re-hypothecation apply.                

8 The guidelines note that this will necessarily involve co-operation between relevant authorities and a need to harmonise rules and recognise equivalencies to the extent possible. 

9 The requirement to exchange variation margin will become effective on 1 December 2015 and will apply only to new contracts entered into after that date. The requirement to exchange initial margin (subject to a group-wide threshold of up to €50 million) will be phased in over a five year period beginning 1 December 2015 and will apply initially to covered entities that are party to group-wide transactions having an aggregate month-end average notional amount for June, July and August of that year in excess of €3 trillion, decreasing annually over the five year term to €8 billion; and as with variation margin will apply only to new contracts entered into during the relevant years.               

10 The paper notes that in February 2013 BCBS-IOSCO reported a market impact of €0.7 trillion based on a €50 million threshold and a model-based derivation of initial margins; and that ISDA estimates a market impact of over €8 trillion (of which over €4 trillion would be demanded of the major dealers) based on a €50 million threshold and a schedule-based derivation of initial margins.  The conclusion reached is that a model-based derivation is feasible but that a schedule-based derivation is not – hence the development of a SIMM. 

11 The paper notes that, in order to keep disputes to a minimum, initial margin collectors and collateral posters should have access to the same initial margin model – hence again the development of a SIMM.      

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on

Click to Login as an existing user or Register so you can print this article.

Luke Whitmore
In association with
Related Video
Up-coming Events Search
Font Size:
Mondaq on Twitter
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
Email Address
Company Name
Confirm Password
Mondaq Topics -- Select your Interests
 Law Performance
 Law Practice
 Media & IT
 Real Estate
 Wealth Mgt
Asia Pacific
European Union
Latin America
Middle East
United States
Worldwide Updates
Check to state you have read and
agree to our Terms and Conditions

Terms & Conditions and Privacy Statement (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

Use of

You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.


Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.


Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.

Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.


A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

Log Files

We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.


This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.


If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.


This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at and we will use commercially reasonable efforts to determine and correct the problem promptly.