|Dispute resolution procedure requirement under EMIR|
Legal basis for the dispute resolution requirements
EMIR requirements with respect to dispute resolution are stipulated in Article 15 of the regulatory technical standards (Commission Delegated Regulation (EU) No 149/2013 of 19 December 2012 supplementing Regulation (EU) No 648/2012 of the European Parliament and of the Council with regard to regulatory technical standards on indirect clearing arrangements, the clearing obligation, the public register, access to a trading venue, non-financial counterparties, and risk mitigation techniques for OTC derivatives contracts not cleared by a CCP (OJ L 52, 23.2.2013, p. 11- ‘Commission Delegated Regulation on Clearing Thresholds’ or ‘RTS’)) - see box.
The process for setting regulatory requirements for dispute resolution has a broader reach and legislative developments in that regard are not EU-specific - see IOSCO Risk Mitigation Standards for Non-centrally Cleared OTC Derivatives FR01/2015 of 28 January 2015 p. 14 - 15. Both instruments follow broadly the same line, the latter being of a more general nature.
Required frequency of the disputes' reporting
The frequency of the relevant reporting to a competent authority on disputes was doubtful on the ground of the RTS. Due to the absence of explicit legislative language different timelines were proposed (e.g. monthly, quarterly etc.).
The regulatory stance in that regard is, as a minimum, financial counterparties are expected to make a monthly notification of any disputes outstanding in the preceding month, however, national competent authorities may require more frequent reporting of outstanding disputes.
The another potential problem is whether detailed policies and procedures mentioned in Article 15 of the RTS refer to valuation differences at the trade (or contract) level or margin disputes which occur at the portfolio level.
The were presented views that since the portfolio reconciliation requirement included both collateralised and non-collateralised trades the word 'dispute' here referred to valuation differences observed in the reconciliation process.
However, as ESMA clarified, the valuation is the one attributed to each contract in accordance with Article 11(2) of EMIR (the question was: "What is the 'valuation' referred to in Article 15 of the RTS on OTC derivatives?").
The amount or value of outstanding disputes should be calculated and reported on a trade by trade basis whenever possible. However, a portfolio basis may be used if the disputed valuation or collateral, for example initial margin, is calculated at the portfolio level.
There may be also the ambiguity at which point in time the issue of a "dispute" arises and what are the representative characteristics which differentiate a "dispute" from a discrepancy that party expect can be easily resolved at an operational level. It seems that a seriousness of the issue should be taken into account when determining on this question in the EMIR regulatory sense.
Referring to this issue ESMA in its Questions and Answers on EMIR stated that "Counterparties may agree upfront that discrepancies that amount to a value below a pre-defined threshold do not count as disputes. If that is the case, these minor discrepancies would not count as disputes. All the other discrepancies would give rise to disputes and be treated according to Article 15 of the RTS on OTC derivatives."
ESMA has also explained that a dispute in the sense of the provision at issue may be also caused by cashflows settlement breaks.
Parties wishing to implement EMIR dispute resolution requirements into their contractual documentation have at their disposal at least two master agreements:
- the ISDA 2013 Portfolio Reconciliation, Dispute Resolution and Disclosure Protocol published by the International Swaps and Derivatives Association, Inc. (the "ISDA Protocol"), and
As EFET underlines in its Guidance Notes, it is intended that the core obligations under both the ISDA Protocol and the ERMTA are to apply to transactions that are subject to the applicable EMIR obligations, including where those transactions are not documented under an ISDA Master Agreement (in the case of the ISDA Protocol) or an EFET General Agreement (in the case of the ERMTA).
The possibility to include the above standards into other than ISDA and EFET legal documentation may seem a convenient and swift way to cope with EMIR dispute resolution burdens (as well as other EMIR risk mitigation techniques). However, as is also reserved in the EFET's and ISDA's responsibility clauses, market participant is solely responsible for EMIR compliance as well as for safeguarding its own interests.
Besides, the ERMTA text provides an additional argument that the term "dispute" is understood in the EMIR nomenclature in the very specific sense.
As ERMTA Guidance Notes underline, ERMTA dispute identification and resolution procedure "is distinct from, and does not apply in relation to, a 'dispute' which may arise out of or in relation to the ERMTA in general and which is unrelated to the specific requirements emanating as a result of the implementation of EMIR."
As a result of this differentiation, under EFET standard documentation any 'dispute' other than a dispute in the EMIR sense is to be governed by the relevant standard procedure which has been elected by the parties in accordance with the provision of master agreement specifying the the general issues of governing law and dispute resolution.
Also remedies for breach of the ERMTA when it comes to EMIR requirements have been arranged in the specific manner, namely a failure by a party to comply with the obligations set forth in the ERMTA does not amount to a circumstance that permits termination of the EMIR relevant transaction; and neither will such a failure amount to an event of default, termination event, material reason, or any similar such term, which may permit the termination of the EMIR relevant transaction or any other transactions.
Generally, describing responsibility at issue it is useful to mention that under both the ERMTA as well as ISDA Protocol, failure to comply with contractual EMIR risk mitigation techniques requirements, dispute resolution including, does not represent an event of default, termination event or material reason (without prejudice to rights and remedies provided by law).
The effect is, that under the above master agreements we have a bizarre, to some extent, situation of two distinct dispute resolution procedures designed for different purposes, with separate remedies and responsibility for non-compliance. The inter-dependencies of these procedures require more in-depth analysis.
Interesting and useful feature of ERMTA is that parties may choose to apply its terms to transactions that are not EMIR-relevant transactions and to transactions, in respect of which there is some doubt as to whether or not they are embraced by EMIR risk mitigation requirements.
The above-mentioned IOSCO risk mitigation standards contain an express remark (p. 15) that an agreement on a dispute resolution mechanism or process "would not prevent covered entities from pursuing other options for recourse (e.g. arbitration or legal proceedings)".
Starting date for EMIR dispute resolution requirements
ESMA in its Questions and Answers on EMIR clarified dispute resolution requirements apply to the portfolio of outstanding OTC derivative contracts. Therefore as the relevant technical standards entered into force on 15 September 2013, the requirements apply to the portfolio of outstanding contracts as of such date.
ESMA in its Questions and Answers on EMIR also observed that Article 11 of EMIR, which provides the basis for these requirements, applies wherever at least one counterparty is established within the EU. Therefore, where an EU counterparty is transacting with a third country entity, the EU counterparty would be required to ensure that the requirements for dispute resolution are met for the relevant portfolio and/or transactions even though the third country entity would not itself be subject to EMIR.
However, if the third country entity is established in a jurisdiction for which the Commission has adopted an implementing act (under Article 13 of EMIR), the counterparties could comply with equivalent rules in the third country (there are no at present such implementing acts on equivalency, however, the analysis are being carried out - on details see here).
The current stance as regards equivalency assessments is as follows:
The regime for risk mitigation techniques in Japan does not include requirements equivalent to those of EMIR. This covers also the relevant dispute resolution procedures.
For this reason the current ESMA's advise to the European Commission is not to grant equivalence on dispute resolution regime in Japan for the purpose of Article 11 of EMIR.
Special treatment for C6 energy derivatives contracts
Pursuant to MiFID II Directive EMIR timely confirmation requirements will not apply during the 42-month transitional period (counted from the entry into application of the said Directive) to C6 energy derivatives (i.e. physically settled coal and oil traded on an OTF) entered into:
- by non-financial counterparties below EMIR clearing threshold, or
- by non-financial counterparties that will be authorised for the first time as investment firms as from the date of entry into application of the MiFID II.
It is noteworthy that the particular term appears in the language of Article 15 of RTS namely five business days as a deadline above which the process should be "specific". This is a new issue to include in the drafting for the contracts.
|Last Updated on Tuesday, 22 March 2016 00:03|