The European Parliament will push to exempt pension funds from mandatory central clearing for over-the-counter swaps on a permanent basis, according to Kay Swinburne, vice chair of the European Parliament’s Economic and Monetary Affairs Committee.
Speaking to reporters at ISDA’s annual general meeting in Lisbon today, Swinburne said that recent European Commission proposals for a three-year exemption as part of the European Commission’s review of European Market Infrastructure Regulation would likely be extended following negotiations with the European Parliament and European Council.
“I’m convinced it will be a permanent exemption,” the member of the European Parliament for Wales told reporters. “I don’t think there’s a benefit of including pension funds. Almost all of them are using these instruments under their statute for hedging risk so it’s an underlying hedge and for me they should be permanently excluded.”
The European Parliament originally called for a permanent exemption for pension funds in its 2010 paper on the issue, but the final EMIR text opted for a two-year exemption on the assumption that a solution would be found to address collateral concerns that the funds face when clearing their OTC swaps.
Pension funds face structural difficulties in centrally clearing their OTC derivatives as clearinghouses only accept cash from clients to meet variation margin calls. In order to yield higher returns for policy holders, pension funds typically limit their cash positions. If subjected to the clearing obligation, pension funds would have to shift part of their assets into cash. The European Commission estimates that pension funds and their members face an additional €1.6bn cost associated with mandatory derivatives clearing.
“This would have a negative impact on the revenue of future pensioners,” the commission said in a communication in conjunction with the EMIR review.
Despite leaving the door open for an additional two-year extension, subject to certain requirements and a solution not being found, the commission reiterated its intention to see pension funds ultimately caught in the regulatory net.
“Since PSAs [Pension Scheme Arrangements] are active users of derivatives, the proposal makes sure that the ultimate goal is that they participate in central clearing. It therefore establishes strict criteria to assess progress in developing clearing solutions for PSAs,” the commission said in its communication last week.
Possible solutions could see clearinghouses extend the range of collateral that buyside firms can post to meet their variation margin requirements, but legislators are concerned about exposing clearinghouses to greater risk given their status as systemically significant institutions.
“The more work I do on recovery and resolution, the more I don’t want them [CCPs] to hold anything that isn’t the highest quality, most liquid collateral,” said Swinburne. “Would I prefer to see them outside of it completely? Absolutely, rather than putting more risk into the CCP.”
According to Swinburne, the European Parliament will push for a compete exemption, but she believes that a rolling exemption would be an acceptable compromise following negotiations.
“I think it’s more likely to be a rolling exemption and a rolling exemption, with no sunset clause, I can just about live with,” said Swinburne.
She said that proposals in the EMIR review are closely aligned with the original European Parliament text that was voted through in 2010 and that the issue stems in part from a small cohort of member states in the European Council that were affected by pension fund exemptions in 2010.
“If you look at the number of countries with pre-funded pension funds, it’s a small handful. When the UK leaves the dominant pension fund industry loses its voice at the table,” she said.
Aside from the UK, Europe’s pension fund industry is dominated by small Scandinavian markets, the Netherlands and small German property funds that get caught by the PSA determination.
“This is about compromise,” said Swinburne. “Ultimately if the draft text is where you want to end up they’re [the Commission] likely to be pulled to the parliament position of a complete exemption.
“I expect they’ll reset their position so that a compromise can be reached.”
