The challenge
The Dodd-Frank Act, specifically Title VII, placed an incredible resource burden on the industry, including swap dealers, major swap participants and non-financial end-users such as Microsoft. The endless drafting of legislation and the final rule-makings by the Commodity Futures Trading Commission (CFTC) and Securities and Exchange Commission (SEC) complicated the matter further. Microsoft also had the significant challenge of determining whether it should evoke the end-user exemption and determining clearing thresholds for the company’s non-financial enduser classification.
In addition, the exercise of performing benchmarking and due diligence in the OTC futures commission merchant (FCM) selection process was very exhausting and time-consuming. The legal review took approximately one and a half years.
“The real problems, issues and challenges for Microsoft were in the interpretation of the complex CFTC – SEC rules and regulations as they evolved, which took years. For Microsoft the goal was to be at the forefront of Dodd-Frank as legislation and regulations were finalised and to be able to successfully clear the first wave of derivatives products. We are now also set-up for the mandatory swap execution facility (SEF), electronic trading platform and are ready for the next in-scope products down the pipeline, which are expected to include FX non-deliverable forwards (NDFs) and single-name credit default swaps (CDS),” explains Eric Barka, Treasury Manager.
The solution
Starting in 2010, Microsoft was proactive in interpreting the complex CFTC – SEC rules, regulations, final rulings and successfully implemented an OTC central clearing model solution that was leading-edge for corporates.
To do so, the Microsoft treasury team started by selecting their OTC FCM clearing agent, MLPFS and middleware provider, Markit. It also implemented the Blackrock Aladdin platform and put an OTC collateral management solution in place with its agent, Northern Trust. This comprehensive work ensured that Microsoft’s treasury was able to trade on day one to meet the mandatory OTC central clearing requirements on 9th September 2013. This covered the first wave of clearable credit and rate products, CDX investment-grade, high-yield and vanilla interest rates.
This risk management solution and innovation began early with the intent to voluntarily clear to manage counterparty exposure risk, receive best trade executions over non-cleared swaps with higher margin requirements, and proactively get behind the lengthy legal reviews of the FCM OTC Clearing Addendum, Futures Agreements and Cleared Derivative Execution agreements.
“Now we look onward for new clearing requirements around FX NDFs and Single Name CDS,” explains Michelle Christensen.
Best practice and innovation
“When Microsoft’s treasury decided at the end of 2010 to conduct a survey to benchmark our readiness and preparations for Dodd-Frank OTC clearing, we found an interesting fact in that not many other corporates were taking a proactive stance for getting central clearing in place to meet the looming deadlines. Most corporates we spoke with choose the wait and see approach and availed themselves of the DF exemption that use derivatives to hedge commercial risk,” explains Jayna Bundy, Group Treasury Manager, Treasury Capital Management.
Microsoft was one of a relatively small handful of corporates that decided to put an OTC clearing model solution in place to be prepared to voluntarily clear. The outcome followed more than two years of intense planning, preparation, and implementations that started the moment the Dodd-Frank Act was passed in 2010, with the objectives to implement a fully STP clearing model. Microsoft executed its first OTC cleared trade on 9th September 2013.
Although this entry was submitted in the Best Risk Management category, our judges felt the project warranted a Highly Commended as a Judges’ Choice given the manner in which the team had gone about addressing Dodd-Frank.
