7 minute read
Right now there is little sign of any formal changes in plans across most of the regulations, though of course that might change. Clearly people and businesses have much greater concerns at the moment and the regulatory agenda is well down the list, but we thought helpful to take stock of what is in play.
- MiFID II1– February and March saw no fewer than five consultations on MiFID II covering Systematic Internalisers, transparency, trading obligations and the inducement regime among other things. Quite a stack to work through given everything that has happened since. And the result of all this navel gazing...is it MiFID III or some rather more contained tweaks at the edges?
- LIBOR2- lots of open consultations in the LIBOR space too... pre-cessation, swaptions, indices & conventions, cash fallbacks. The next key date is 22 June for CCPs3 moving discounting from EONIA4 to €STR5 flat - no sign of that shifting yet. Following that, there is the long awaited ISDA6 Fallback Protocol and the Q3 2020 target for no new £LIBOR cash products. Then the big one of course, the end of 2021 for full cessation. Will we see some flexibility short term on these milestones but holding fast on the end date?
- Margin - the September 2020 deadline for Phase 5 International Margin (IM) is looming, with a challenging book of work for legal and operations teams to get CSAs7 and custodian arrangements in place in time. No indication of a slippage of that deadline, though legal resources are going to be stressed.
- CSDR8 - pre-crisis ESMA9 had already recommended a delay to the Collateral Settlement Discipline Regime until 1 February 2021. The question now is, is that enough or will we see further delays?
- SFTR10 - this is the first official regulatory date change as a result of COVID-19. ESMA announced on 18 March that because of the crisis, there will be a delay in go live of SFTR reporting of 3 months to 20 July 2020.
- EMIR11 - EMIR Refit changes are due to go live on 20 June, with Financial Controllers (FCs) taking on the liability for non-financial counterparty (NFC) transaction reporting. There are rumblings from industry bodies that they would like to see a delay to this date, or at least some forbearance on compliance with the requirements.
- CRD12 / IFRS913 - the Bank of England (BoE) and Prudential Regulation Authority (PRA) announcedon 20 March, a number of measures aimed at alleviating operational burdens on PRA-regulated firms and Bank-regulated financial market infrastructures in the wake of the Covid-19 outbreak.
Beyond the above there are the major market changes driven by Brexit, ESG14 and FRTB15 that will also be under scrutiny in the light of the global crisis.
How do the industry and the regulators balance these already set milestones against unprecedented volatility and disruption in world markets? Some of the statements from regulators, such as the CFTC16 comments around temporary relief to market participants, may be a signal of forbearance to come globally.
In our Look Ahead in January we set out a timeline for 2020, below we update it with some of the recent changes. The moves are not all the result of COVID-19. ISDA17 Protocol is delayed by the Pre-cessation consultation and CSDR18 moved their dates back in February due to industry concerns on readiness.
Read on for more details on the topics mentioned above.
Between 31 January and 10 March the EU released five different consultations on aspects of MiFID II / MiFIR19. The EU authorities have a statutory obligation to review new regulations they have implemented, hence the avalanche of paper. But the key question is whether it will have a substantive impact on market structure?
To quickly summarise what's landed on the doorstep recently in terms of MiFID / MiFIR consultations (the strike-throughs show where there has been a delay to closing date as a result of COVID-19):
- 31 Jan - 31 Mar 28 Apr : Regimes for third country firms (ESMA20)
- 03 Feb - 18 Mar 15 Apr: Transparency regime for systematic internalisers (ESMA)
- 04 Feb - 17 Mar 14 Apr: Transparency regime for equity instruments (ESMA)
- 17 Feb - 20 Apr: General public consultation on 'experience of 2 years of MiFID II / MiFIR' (CMU21/ EC22)
- 10 Mar - 19 Apr 17 May: Transparency regime for trading obligation for derivatives (ESMA)
There is an awful lot to unpick here, and we'd be happy to discuss in more depth if you are interested. For the Foreign Exchange (FX) market the impact will be limited due to the illiquid classification. How long this will last is something to ponder.
For now we will limit ourselves to a few observations around MiFID II and the push for ever greater levels of transparency:
- Venue trading is generally increasing – no surprise given frictional cost of voice business
- Venues are increasingly covering off product and protocol gaps both of which were traditionally handled by voice
- Axes and axe workflow via both venues and specialist platforms (Neptune) further digitising client/sales interactions and fundamentally changing client-sales-trader workflow
- During last few weeks, clients turning to venues for liquidity and massive increase in small tickets
However as we mentioned last year, we also continue to see clients increasingly looking to digitise voice workflow, with tie-ups with Fintech firms like iPushpull and Symphony (see our own Scout voice RFQ (Request for Quote) bot within Symphony - video here).
As with MiFID II, there are so many moving parts and consultations with LIBOR it’s hard to keep track.
So what is the story in the light of COVID-19? No news of loosening of timelines from regulators yet, though there is a Sterling risk-free-rate (RFR) Working Group w/c 23 March, so we might see something out of that. Possibly some flex in the short / medium term but seems unlikely any movement on the December 2021 final deadline for now.
It is a financial crisis such as the one we are currently seeing that underlines just why LIBOR with its dependence on "expert judgment" is problematic. It would be ironic if the crisis ended up delaying LIBOR's demise!
Anyway, a quick reminder of the open consultations:
- 16 Jan - 20 Mar: ICE23 swap rate based on SONIA24(ICE)
- 27 Jan - 23 Mar: LCH Ltd pre-cessation trigger rulebook changes (LCH)
- 21 Jan - 25 Mar: ARRC25 spread adjustment methodologies for cash (ARRC)
- 07 Feb - 09 Mar: ARRC swaptions impacted by CCP26 SOFR27 discounting changes (ARRC)
- 25 Feb - 26 Mar 01 Apr: ISDA pre-cessation triggers for fallbacks (ISDA)
- 26 Feb - 09 Apr: BoE provision of compounded SONIA index and averages (BoE)
- 13 Mar - 03 Apr: ECB28 swaptions impacted by CCP €STR discounting changes (ECB)
- 19 Mar - 28 May: HMRC29 taxation implications from withdrawal of LIBOR (HMRC)
So again, an awful lot going on and scarce resources to respond. The big upcoming deadlines this year are:
- 22 Jun: CCPs move discounting from EONIA to €STR flat
- June / July: ISDA publishes fallback protocol following conclusion of pre-cessation discussions
- End Q3: BoE target for no new GBP LIBOR loans or bonds being written
- 16 Oct: CCPs move discounting from Fed Funds to SOFR30
The one to watch right now is the CCP discounting changes in June from EONIA to €STR flat - so far LCH Ltd seems to be sticking to the big bang change over weekend of 20-21 June. Open question on how and when the bilateral market will follow with amending their CSAs to €STR flat (we are open to discussions on this, please contact us).
For more information on the background to the discounting changes see the summary from ISDA in their 2020 RFR Major Developments paper (pp 11-13), the detailed LCH Ltd transition plans (for SwapClear members and clients only) and the CME Ltd pages for €STR and SOFR.
Margin for Uncleared
All eyes on 1 September for IM Phase 5 (smaller Financial Institutions with > €50 billion notional). There is huge contention in the market for legal and operational resources to get ready for margin especially noting other pulls on resources. The disruption from COVID-19 of course will not help here.
A quick round up of some of the key themes we're seeing below:
- Confirming entities in scope
- AANA31 is at a group level. Need to consider multi-managed funds e.g. if an entity is in scope and uses multiple investment managers to enter into in-scope trading
- The negotiation of IM documentation may take between 3-5 months to complete. If entities have not yet confirmed they are in scope there is a risk that they will not be ready by 1st Sep
- Custodian choices are still key. We are seeing some contention with counterparties wishing to use different custodians, leading to delays in completion of documentation.
- Some counterparties insist on receipt of IM via 3rd party custodians, creating additional manual processing.
- Threshold Monitoring – “far from a silver bullet….”
- Entities still need to ensure timely completion of the self-disclosure process with their counterparties (threshold is applied to the aggregate IM amount across the parties’ corporate groups, not allocated on a per-trading relationship basis).
- Entities seeking to utilise a threshold monitoring arrangement in order to defer their IM preparations still have to “act diligently when their exposures approach the threshold and to ensure that the relevant arrangements are in place if the threshold is exceeded”.
- ‘Tweaked’ SIMM32: Front book and legacy Information Architecture (IA) –
- Entities are looking at whether they can include non IM products (Deliverable and Spot FX) as part of their overall strategic portfolio into the SIMM calculation in order to simplify their operational processing.
- There have been an increased number of queries from phase 5/6 entities to calculate their legacy transactions using the SIMM model with a some sort of ‘scaler’ (ie SIMM calc x 0.7) instead of the historical bi-lateral Value at Risk (VAR) methodology. At this point it is not clear whether this is the way the industry is moving or whether it is a few firms trying to simplify their own operations.
Prior to crisis there was already concern in the industry round the CSDR timelines which led to a delay into 2021. Here's a quick roundup of recent events and open issues in this space:
- 22 Jan: Joint Industry association sent a letter to ESMA. Key areas of focus of the letter include the timing around the introduction of cash penalties, the deferral of the mandatory buy-in regime, and the implementation of monitoring processes
- 5 Feb: ESMA announced to move the CSDR Settlement Discipline Regime activation date to 1 Feb 2021
- 12 Feb: EACH34 published their Framework on CSDR Settlement Discipline as developed by the EACH Securities Operations Working Group
- ISLA35/ AFME36 CSDR Ops Working Group agreed (a) that the industry should default to auto-partialling (b) operations teams must manage their pre-matching and fails notifications in a timely manner to ensure discrepancies are addressed and amendments processed prior to the market cut-off times, so as to reduce the impact of settlement failure
- Points that are outstanding and being discussed in AFME / ISLA forums on Buy-In
- Resolving the asymmetry and pass on mechanisms
- Does the settlement instruction need to be matched? If it matches after the end of the extension period, when should be the buy-in be initiated?
- If the financial instrument no longer exists or the failing trading party is subject to insolvency proceedings, the buy-in is deemed not possible and the receiving trading party is eligible for cash compensation. How are these determined?
- Identifying In/Out-of-scope SFT’s37
- Timing for cancelling the original trade instructions
- If a buy-in is not possible, is there any value in a cash compensation auction process that requires actionable prices?
- Should it necessarily be the role of an independent third-party (the buy-in agent) to establish the cash compensation reference price.
- ESMA has confirmed a 3 month delay to the start date for SFTR reporting from 13 April to 13 July 2020 in response to the COVID-19 pandemic.
- EMIR Refit reporting requirements are due to go live on 18 June 2020, where FCs will become liable for the reporting of both their own over-the-counter (OTC) trades and those of their NFC- clients.
- There is discussion in the industry about whether there may be a delay, or at least some forbearance, granted in the light of the present situation.
- An element of the new requirements causing some concern was the requirement to obtain additional "explicit permission" for the DTCC38 from all NFC- counterparties to continue reporting on their behalf
Of course how Brexit negotiations will play out against the backdrop of the current crisis, and what this means for the transition period, equivalency decisions and so on is anybody's guess. But that is beyond the scope of this article.
Where will it all end?
It is clear there is a huge amount of change and uncertainty on a daily basis, and what the crisis will mean for the regulatory landscape in the short and medium term will only emerge over time. So far we've seen a few delays to consultation response deadlines and near term go live dates, but nothing more substantive.
What is certain is that it will be a confusing time with frequent announcements and shifting ground - we are here to help you through that confusion. Please contact us if you would like to discuss any of the topics mentioned here.
This article is also authored by John Stevenson-Hamilton, LIBOR Client Strategy & Engagement.
Footnotes: 1Markets in Financial Instruments Directive. 2London Interbank Offered Rate. 3Central Clearing Counterparty. 4Euro Overnight Index Average. 5Euro short-term rate. 6International Swaps and Derivatives Association. 7Credit Support Annex. 8Central Securities Depositories Regulation. 9European Securities and Markets Authority. 10Securities Financing Transaction Regulation. 11European Market Infrastructure Regulation. 12Central Registration Depository. 13International Financial Reporting Standard. 14Environmental, social and governance. 15Fundamental Review of the Trading Book. 16Commodity Futures Trading Commission. 17International Swaps and Derivatives Association. 18Central Securities Depositories Regulation. 19Markets in Financial Instruments Regulation. 20European Securities and Markets Authority. 21Capital Markets union. 22European Commission. 23Intercontinental Exchange. 24Stirling Overnight Index Average. 25Alternative Reference Rates Committee. 26Central Counterparty Clearing House. 27Secured Overnight Financing Rate. 28European Central Bank. 29 Her Majesty’s Revenue and Customs. 30Secured Overnight Financing Rate. 31Average Aggregated Notional Amount. 32 Standard Initial Margin Model. 33Central Securities Depository Regulation. 34European Association of CCP Clearing Houses. 35International Securities Lending Association (UK). 36Association for Financial Markets in Europe. 37Securities Financing Transactions. 38Depository Trust & Clearing Corporation