Hedge Funds Win Collateral Reprieve in SEC Dodd-Frank Shift

Hedge funds and asset managers won relief from Dodd-Frank Act collateral requirements for credit-default swaps under a policy shift disclosed today in letters posted on the U.S. Securities and Exchange Commission’s website.

The letters to banks including JPMorgan Chase & Co. and Goldman Sachs Group Inc. revised a measure released in March that called for some clients to put up double the collateral dealers post for portfolio margin accounts at Atlanta-based IntercontinentalExchange Inc. The banks instead will be able collect collateral from clients according to clearinghouse rules for six months.

During the six-month period, banks must design their own models for trading with clients that will then need SEC approval, the agency said in the letters dated today. The SEC suggested guidelines, including requiring enough margin to handle a 10-day liquidation with 99 percent confidence. The policy affects portfolio accounts with credit swaps tied to single securities offsetting those tied to indexes.

“The monitoring of counterparty credit risk must include the prudent setting of exposure limits and mechanisms that would allow Goldman to limit or reduce the exposure to counterparties,” the SEC said in its letter to Goldman Sachs.

The change from the March policy may help encourage clearing of trades under Dodd-Frank, the 2010 regulatory law that called for most swaps to be guaranteed at clearinghouses as a way to reduce risk in the financial system. Mandatory clearing of trades began in March, and a second phase of client clearing is scheduled to take effect June 10.

ICE, owner of the world’s largest clearinghouse for credit swaps, Citadel LLC, and other firms have spent more than a year pushing regulators to support the portfolio-margining system for client trades.

Other banks receiving the letters dated today were Citigroup Inc., Credit Suisse Group AG, Deutsche Bank AG, Morgan Stanley and UBS AG, according to the SEC’s website.