Where a clearing member desires to use its own assets (i.e. assets that were not posted by a client of the clearing member) to fulfil the margin requirements of the client account, then such assets could be recorded in a client account at a CCP, however in doing so the assets would be treated as assets held for the account of clients of the clearing member. This would mean that upon a default of the clearing member, the assets would be exposed to losses connected to the client account in which the assets were recorded and could no longer be used to meet any losses on the defaulted clearing member's house account(s).
This interpretation has been acknowledged by ESMA in regulatory guidance.
EMIR does not allow the use of unsegregated accounts. Article 39(2) and 39(3) of EMIR provide that CCPs must offer both 'individual client segregation' and 'omnibus client segregation' (these terms being defined in Articles 39(2) and 39(3) of EMIR).
ESMA regulatory guidance underlines that while CCPs might offer other levels of protection in addition to individual client segregation and omnibus client segregation (e.g. an omnibus gross margin client model), omnibus client segregation is the minimum level of client protection that can be used under EMIR.
1. Omnibus client segregation
EMIR Article 39(2) wording requires for the omnibus client segregation that the CCP keeps separate records and accounts enabling the clearing member to distinguish the assets and positions of the clearing member from the assets and positions held for the account of its clients.
In simple words in this option the client account is fully segregated from the house account, but the positions of the non-segregated clients are commingled. This is the minimum level of segregation required under EMIR.
The view has been presented (see "Guideline for EMCF's Segregation & Portability Offering under EMIR"), this option is likely to be more economical both in terms of total margin called, settlement costs and number of collateral accounts required. The account will have a single margin call and will therefore benefit from margin netting across all clients within the account.
Omnibus client segregation involves though, multiple legal risks, which may be to some extent mitigated by choosing another option i.e. individual client segregation.
2. Individual client segregation
In this alternative EMIR Article 39(3) requires the CCP to keep separate records and accounts enabling the clearing member to distinguish the assets and positions held for the account of each client from those held for the account of each other client.
The main additional cost of this solution is that the segregated client position account will be margined and settled separately from other accounts and will therefore not benefit from any cross client netting opportunities at margin or settlement level.
In practice, clients choosing the option of individual segregation are known by the CCP, while the omnibus clients may be not. An example is the European Commodity Clearing AG (ECC), which distinguishes the two above types of clients using the following criteria:
- Non-Clearing Member ("NCM") is a client of a Clearing Member (CM) that has signed a trilateral clearing agreement ("NCM-Agreement") with ECC and a CM, is known to ECC and its positions are recorded separately from those of the CM or other NCMs and clients in ECCs systems,
- Client of a CM, which has not signed an NCM-Agreement, clears transactions through its CM and is not known to ECC. Its transactions are recorded separately from its CMs positions and those of other NCMs but are commingled with the positions of other clients in the same account.
3. Effects of the segregation
The main effects of segregation are:
a. Separate accounts
The assets and positions must be recorded in separate accounts.
b. Netting impossible
The netting of positions recorded on different accounts is prevented.
c. No exposition to losses in another accounts
The assets covering the positions recorded in an account are not exposed to losses connected to positions recorded in another account.
In that regard regulatory guidance from ESMA explained that the account at the CCP must identify the specific assets (e.g. the particular or equivalent securities) due to the account of the client and it is not sufficient that it identifies only the value due to that account, alternative approaches to segregation that identify only the value due to the accounts of the clients (while recording the assets provided for the account overall) may be offered only in addition.
The said EMIR rule has also once more interesting effect, namely where a clearing member desires to use its own assets (i.e. assets that were not posted by a client of the clearing member) to fulfil the margin requirements of the client account, then such assets could be recorded in a client account at a CCP, however in doing so the assets would be treated as assets held for the account of clients of the clearing member. This would mean that upon a default of the clearing member, the assets would be exposed to losses connected to the client account in which the assets were recorded and could no longer be used to meet any losses on the defaulted clearing member's house account(s). This interpretation has been acknowledged by ESMA in regulatory guidance.
d. Excess margin posted to the CCP
When a client opts for individual client segregation, any margin in excess of the client's requirement must also be posted to the CCP and distinguished from the margins of other clients or clearing members and must not be exposed to losses connected to positions recorded in another account.
Regulatory guidance from ESMA made clear that variation margin payments, representing amounts of margins called by the CCP are required to be recorded in the separate records and accounts maintained for the individually segregated client at the CCP.
However, this requirement does not imply that payment instructions must be made for every individually segregated account separately. CCPs may therefore issue one payment instruction for multiple accounts at the same time, so long as they issue separate margin calls for each account (house, omnibus client, individually segregated client account) and correctly record these margin calls, and the payments which correspond to them, in the records of each account.
e. Fees, charges and costs
Although having indisputable merits in terms of legal protection, individual client segregation is likely to be involved with additional CCP charges to cover the extra administration and monitoring required (such additional costs envisioned for instance by the EMCF). Lacking netting opportunities for the clearing participant at both margin and settlement level should also be weighed up.
Taking these circumstances into account, it is likely that the omnibus client segregation as the minimum level of segregation required (separate house and client position and collateral accounts) will in practice represent the standard CCP membership service while the individual segregation will pose a product tailored for specific needs of the clients.