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Collateral Margin/ Haircut Definitions and Calculations

Collateral Margin/ Haircut Definitions and Calculations

A HAIRCUT should be applied where securities are used as collateral and this haircut is applied to the non- cash collateral, reducing the value by the amount of the haircut. A Margin should be used when cash collateral is used to collateralise the loan. In this case, the loan is increased in value by the amount of the margin. A MARGIN or Haircut should be based on the calculated risk of loss. The higher the risk to the lending client, the higher the margin/haircut applied. The margin/haircut applied will be based on the criteria outlined by the client when joining the program. This will typically depend on the credit rating of the collateral pledged compared to the rating of the securities being loaned to the broker. (IBP-162 AGREED IN 2017)

Calculation of Margin

The calculation of exposure should follow the below formula: Exposure: ((Quantity of Loan * Security Price of Loan) * Margin% if applicable) * FX Rate Minus: Collateral: ((Quantity of Collateral * Security Price of Collateral) * Haircut% if applicable) * FX Rate (IBP-163 AGREED IN 2017)

Margin Deviations

There is also the possibility of margins being re-agreed or altered in the below scenarios: i) In the event of large fluctuations in the market, due to broker default or market uncertainty, margins may be increased to protect the client from large market swings resulting in exposure. ii) If a piece of collateral is pledged which has a stale price, it is common for the margin to be increased incrementally until an updated price is received. If a security is unpriced for an agreed period of time, the security is deemed ineligible. (IBP-164 AGREED IN 2017)

BASEL III

In line with Basel III, each entity must ensure there are sufficient resources allocated to collateral management to ensure there is an efficient margin call agreement and collateral settlement process. All collateral processes and margining logic should be reviewed internally on an annual basis to ensure the current policy is reflective of the current market environment. In the event of a collateral margin call dispute, both counterparties should have a contingency plan documented and agreed common source of information (i.e. price or FX source) to allow the margin call to be agreed. In the event that a counterparty is not sufficiently completing the above, resulting in delayed margin call agreement or even resulting in under-collateralisation, the counterparty may be penalised. I.e. increased pricing, increased margining or cease trading. (IBP-165 AGREED IN 2017)

Issuing Margin Call

A portfolio should be provided in the case of a margin call discrepancy and should include all the below details:
- Quantity of security
- Client
- Dirty Price of security
- Security ID
- Trade price
- Currency
- FX rate
- Haircut/Margin
- Loan or collateral indicator
- Accrued rebate
- Exposure including Haircut/Margin A margin call should be issued in the currency (or one of the currencies) set out in the initial agreement. Each counterparty should have the ability to agree a margin call via a Triparty agent or bilaterally, depending on the counterparty's agreed preference. Contract Compare systems should be used to ensure exposure, price, quantity and margins are in line. (IBP-166 AGREED IN 2017)

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