Following the publication of a policy framework establishing margin requirements for non-centrally cleared derivatives agreed by the Basel Committee on Banking Supervision and the International Organisation of Securities Commissions, the Financial Services Agency of Japan (the "FSA") published a set of final regulations on margin requirements on 31 March 2016 following the publication of the first draft regulations dated 3 July 2014 and the revised draft regulations dated 11 December 2015. The final regulations comprise the Cabinet Office Ordinance on Financial Instrument Businesses, etc. (kin'yuu shouhin torihiki gyou tou ni kansuru naikaku furei)1 (the "Cabinet Office Ordinance"), the Supplementary Provisions (fusoku) (the "Supplementary Provisions"), the Financial Services Agency Public Notice No. 17 (kin'yuu chou kokuji dai juunana gou) (the "Public Notice No. 17"), the Financial Services Agency Public Notice No. 15 (kin'yuu chou kokuji dai juugo gou) (the "Public Notice No. 15"), the Financial Services Agency Public Notice No. 16 (kin'yuu chou kokuji dai juuroku gou) (the "Public Notice No. 16"), the revised Comprehensive Guidelines for Supervision of Major Banks, etc (shuyou kou tou muke no sougouteki na kantoku shishin), the revised revised Comprehensive Guidelines for Supervision of Small-and Medium-Sized and Regional Financial Institutions (chuushou chiiki kin'yuu kinan muke no sougouteki na kantoku shishin), the revised Comprehensive Guidelines for Supervision of Cooperative Banks (keitou kin'yuu kinan muke no sougouteki na kantoku shishin), the revised Comprehensive Guidelines for Supervision of Financial Instruments Business Operators, etc. (kin'yuu shouhin torihiki gyousha muke no sougouteki na kantoku shishin), the revised Comprehensive Guidelines for Supervision of Insurance Companies (hoken gaisha muke no sougouteki na kantoku shishin) and the revised Comprehensive Guidelines for Supervision with respect to Trust Companies, etc. (shintaku kaisha tou ni kansuru sougouteki na kantoku shishin).2 Under the final margin regulations, financial instruments business operators, such as securities companies, and registered financial institutions, including licensed banks and licensed insurance companies ("FIBOs" and each a "FIBO") that engage in OTC derivative transactions as a business will be required to exchange variation margin and/or initial margin when they trade OTC derivative transactions other than those subject to mandatory clearing3 or transactions which have gone through a clearing process on a voluntary basis (each a "Relevant Transaction"). Under the final regulations, the implementation of the requirement to exchange margin when conducting non-centrally cleared derivatives transactions will take place on 1 September 2016 (the "Effective Date").
2 Variation Margin
More specifically, the final variation margin regulations are as follows.
2.1 Detailed obligations4
Each FIBO is required to:5
2.1.1 calculate, every day, on a per counterparty basis (a) the total amount of the mark-to-market value of the Relevant Transactions and (b) the total amount of (x) the value of variation margin received from the counterparty or (y) the value of variation margin delivered to the counterparty;
2.1.2 submit an immediate request following the calculation pursuant to paragraph 2.1.1 above to the counterparty to deliver variation margin in an amount equal to the aforementioned mark-to-market value (a) plus the total amount of variation margin delivered to such counterparty or (b) minus the total amount of variation margin delivered by such counterparty (as applicable),6 except in the case where the difference does not exceed an amount pre-agreed by the parties (provided that such pre-agreed amount needs to be 70 million yen or less in total with the pre-agreed amount in respect of the initial margin exchange);
2.1.3 receive from the counterparty the variation margin without delay if the amount calculated based on paragraph 2.1.1 is plus or post to the counterparty the variation margin if the amount calculated based on paragraph 2.1.2 is minus (as applicable);7 and
2.1.4 where it enters into several Relevant Transactions with the same counterparty on behalf of several different trust accounts, comply with the obligations set out in paragraphs 2.1.1 to 2.1.3 above separately for each such trust account.
2.2 Exempt cases
However, a FIBO is exempt from such obligations in respect of a Relevant Transaction if, as of the VM Calculation Time (as defined below): 8
2.2.1 either party to the Relevant Transaction is neither (a) a FIBO nor (b) a VM Non-Japanese Party;
where "VM Non-Japanese Party" means an entity which (i) engages in OTC derivative transactions in a country outside Japan where it is recognised that agreements on the Close-out (ikkatsu seisan) (the "Close-out") as defined in Article 2, paragraph 6 of the Act on Close-out Netting of Specified Financial Transactions Conducted by Financial Institutions, etc. (kin'yuu kikan tou ga okonau tokutei kin'yuu torihiki no ikkatsu seisan ni kansuru houritsu) (the "Netting Act")9 and similar agreements are valid in light of the laws and regulations of such country as a business (excluding non-Japanese governments, central banks of non-Japanese states, multilateral development banks, and the Bank for International Settlements) (the "Non-Japanese Party") and (ii) whose average amount of reference notional amount with respect to the Relevant Transactions on the last day of each Relevant VM Month is estimated to be equal to or exceed 300 billion yen, determined in a reasonable manner based on various factors including, but not limited to, certain features of the transactions;
"Relevant VM Month" means each month from April in the year that is two years before the VM Calculation Year until March in the year that is one year before the VM Calculation Year (from April one year before the VM Calculation Year until March in the VM Calculation Year if the VM Calculation Time falls within December);
"VM Calculation Time" means the time at which the calculation described in paragraph 2.1.1 above is made by the relevant FIBO; and
"VM Calculation Year" means the year in which the VM Calculation Time falls.
2.2.2 the Relevant Transaction belongs to a trust account whose average amount of reference notional amount (with respect to Reported Transactions) on the last day of each Relevant VM Month is less than 300 billion yen;
where "Reported Transactions" means such OTC derivative transactions which are subject to information recording and reporting obligations under the provisions of the Financial Instruments and Exchange Act (kin'yuu shouhin torihiki hou)10 (the "FIEA").
2.2.3 the parties to the Relevant Transaction are within the same group;
2.2.4 either party (or both parties) to the Relevant Transaction is a FIBO, which is not a Reporting FIBO;
where "Reporting FIBO" means (i) a financial instruments business operator engaging in a Type I Financial Instruments Business (dai isshu kinyuu shouhin torihiki gyou) as defined under Article 28, Paragraph 1 of the FIEA, (ii) (a) a bank that is a registered financial institution, (b) an insurance company that is a registered financial institution, (c) The Shoko Chukin Bank，Ltd. (as a registered financial institution), (d) Development Bank of Japan Inc. (as a registered financial institution), (e) Shinkin Central Bank (as a registered financial institution), or (f) The Norinchukin Bank (as a registered financial institution).
2.2.5 either party (or both parties) to the Relevant Transaction is a FIBO whose average amount of reference notional amount with respect to Reported Transactions11 on the last day of each Relevant VM Month is less than 300 billion yen. Where a transaction is exempt under paragraph 2.2.4 above, the exemption in paragraph 2.2.4 shall prevail. Transactions which belong to a trust account do not qualify for exemption under this paragraph, but might qualify for the exemption in paragraph 2.2.2 depending on the features of the transaction; or
2.2.6 the Relevant Transaction is designated by the authorities as exempt on the basis that it is likely that it is not contrary to public interest or does not prevent the protection of investors. (e.g. because it is already in compliance with the laws of a non-Japanese jurisdiction or other similar circumstances regarding the relevant FIBOs.)
1 Cabinet Office Ordinance No. 52 of 2007, as amended.
2 http://www.fsa.go.jp/news/27/syouken/20160331-4.html (in Japanese)
3 Since November 2012, the FIBOs have been required to clear certain types of OTC derivative transactions via the mandatory use of central clearing under the FIEA.
4 A FIBO is exempt from such obligations with respect to a Relevant Transaction until 28 February 2017 if the following condition is satisfied with respect to either party (or both parties) to the Relevant Transaction: the average amount of reference notional amount (with respect to OTC derivatives, OTC commodity derivatives (in each case, excluding those cleared at Japanese or non-Japanese central counterparties) and FX forwards and swaps where both parties are (i) a Non-Japanese Party (as defined in paragraph 2.2.1 or (ii) a Reporting FIBO (as defined in paragraph 2.2.4) on the last day of each Relevant IM Month, together with such reference notional amount of the other companies in the same group (excluding such reference notional amount with respect to the transactions between the same group companies), is equal to or less than 420 trillion yen. See Article 2, paragraphs 1 and 2 of the Supplementary Provisions.
5 Article 123, paragraph 1, item 21-5 of the Cabinet Office Ordinance
6 Only if the difference is plus.
7 If there is a difference between the amount of the variation margin calculated based on the provisions in paragraph 2.1.1 and the amount calculated by a counterparty as the amount of the variation margin, receive from the counterparty the amount calculated based on the pre-agreed methods without delay or deliver to the counterparty such amount (as applicable).
8 Article 123, paragraph 10 of the Cabinet Office Ordinance
9 Act No. 108 of 1998, as amended.
10 Act No. 25 of 1948, as amended.
11 Reported Transactions which are in respect of a trust account are not being taken into account for the calculation of this average.
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.