Post the 2008 financial crisis, regulatory reforms were introduced for uncleared OTC derivatives. These have been phased in with the final stages coming in 2020 and 2021. Over the next two years, 1,100 firms are set to be covered by the uncleared margin rules (UMR) regulations, meaning they will have to post initial margin. In this highly regulated and competitive environment, the industry is turning towards automation as a means to simplify the collateral process.

SmartStream’s Collateral Management product, part of the firm’s Transaction Lifecycle Management (TLM) suite, helps companies reduce operational risk. Trevor Negus, product manager for TLM Collateral Management at SmartStream told Global Investor that due to regulatory requirements for UMR, the firm has rolled out an easy to deploy, front to back collateral solution to cater for all IM needs. It includes a SIMM calculator, a gross IM workflow, all the regulatory eligibility and concentration checks required, as well as open application programming interfaces (APIs) to connect to downstream settlement systems. Best of all, these processes can now be automated.

“On a day to day basis, trades and market data, including prices and FX rates, will be automatically uploaded. Trades are run through a margin calculation, which sums up the exposures, compares the result to the terms in the legal documentation, and generates an event into a workflow. From here users can process it, or it can be automatically processed by the system,” said Negus.

Acquired from IBM in February 2015, the Collateral Management product is used to manage counterparty risk. Negus described it as a “data warehouse” for all of the entity and instrument data as well as the firm’s legal documentation data, which includes all credit support annex (CSA) terms. It is then the workflow tool for processing both your IM and variation margin (VM) calls.

“Within the workflow we check for wrong way risk, so where collateral is issued by, or related to, the party that is posting it. With initial margin, the collateral for the most part is settled in securities and so users need eligibility, concentration and wrong way checks at the time of booking to handle bond collateral effectively,” added Negus. 

Once the collateral is booked and checked for eligibility by SmartStream, it will seamlessly flow downstream to a firm’s custodian to process the physical settlement. This connected approach enables automation and reduces client resourcing.

Helping smaller vs larger firms

With smaller firms in scope for UMR by 2021, SmartStream has created a “turnkey solution”. It offers an application that is deployed on the cloud, which can be easily integrated into an existing infrastructure, allowing smaller firms to scale up their collateral process quickly. “One of the big concerns for the smaller firms is having the ability to calculate initial margin using the ISDA SIMM. We are able, using a partner’s risk engine, to generate both the sensitivity inputs and then calculate the SIMM, and use this in our margin calculation. Initial margin calls are created in our standard workflow, where users are able to process them alongside their variation margin calls,” said Negus.

For phase 5 and 6 firms impacted by UMR, the ISDA SIMM is likely to be widely used given that it keeps the IM requirement considerably lower versus the grid based schedule approach. Therefore integrating this with the collateral offering is fundamental.

SmartStream can provide the full collateral lifecycle including ISDA SIMM Calculation hosted in the cloud. This allows smaller firms to be more efficient and reduces the time needed to be up and running. However, the traditional on-premise deployment is still there for larger global banks who require everything within their own infrastructure.

With larger firms, the greatest challenge is upgrading to the latest version of the software and staying current with all the latest features. With this in mind, SmartStream has introduced what they have dubbed a quality assurance (QA) testing service. “We deploy the latest version on the cloud for functional review and also provide a full report of all our automated testing. The truth is that many of the tests that clients conduct, we have also run and seen pass,” said Negus. “This is clearly a duplication of time and effort.”

Furthermore, SmartStream is happy to include clients’ tests that they do not have in their suite, which includes any manual testing as well. By doing so, SmartStream is able to shorten the regression cycle and reduce testing effort for client firms.

SmartStream told Global Investor that it invests 30% of its revenue back into research and development (R&D). The firm has been investing heavily into its user interface and the user experience. Repetitive processes are being automated with a transition to an exception based operating model. With regulations driving volumes up, the need for straight-through processing (STP) is more important than ever.