Financial Services Quarterly Report - Fourth Quarter 2013: Leveling the Playing Field: Recent Developments in Benchmarks Regulation

by Dechert LLP
Contact

The individuals and entities responsible for setting financial market reference rates or, more broadly, financial benchmarks, have not historically been subject to extensive regulation. Recent misconduct by banks with regard to the setting of interest rate benchmarks – along with the growing theme of greater oversight of the financial industry – has prompted regulators either to put in place regulation of interest rate benchmarks or to create the foundations for new regulation.

Various overlapping initiatives are now underway – at a national, European and international level – to regulate benchmarks more generally. This article focuses on three of the key proposals.

IOSCO

The International Organisation of Securities Commissions (IOSCO) is an association of world financial regulators. While IOSCO does not produce binding rules, it does seek to promote common standards of regulation and cooperation among regulators.

IOSCO published its “Principles for Financial Benchmarks” (Principles) in July 2013. As IOSCO has no rule-making powers, the Principles are recommended practices to be implemented by benchmark administrators (i.e., entities responsible for setting benchmarks) and submitters (i.e., persons submitting information to the administrators) worldwide. The Principles introduce a form of “comply or explain” obligation, as benchmark administrators are required to make a public announcement in July 2014 explaining how well they are complying with the Principles. This is an unusual request from a regulator that has typically provided high-level frameworks, rather than mandated specific actions, and there is some question as to the degree to which this obligation will be honoured, not least because IOSCO cannot impose any sanctions for non-compliance.

The Principles define a benchmark broadly, and include any index or rate calculated by reference to the value of underlying financial instruments or used to determine the sums due under a financial contract or the performance or value of a financial instrument. The Principles include a detailed code of practice for benchmark administrators, dealing with, inter alia, conflicts of interest and transparency. 

In European terms, there has been more focus on the European Commission’s draft regulation on financial benchmarks.

European Commission

The European Commission (Commission) is the executive body of the European Union, with responsibility for proposing EU-wide legislation. The Commission published a draft regulation on benchmarks in September 2013. That regulation has been through one subsequent draft, and will be further refined and shaped as it passes through the European legislative process. As such, the final scope and timing of the regulation is uncertain. What is clear from the initial draft, however, is that the Commission intends to propose:

    • a new regime for the regulatory authorisation and supervision of benchmark administrators;
    • a detailed code of conduct addressing, inter alia, conflicts of interest; and
    • a requirement to disclose the underlying methodology and data used in determining the benchmark (except where doing so would have “serious adverse consequences” for the contributors or the benchmark).

The Commission has also proposed that any “supervised entity” (including MiFID investment managers and European AIFMs) may only use a benchmark provided by an authorised administrator or an administrator in a “third country” (i.e., outside the EU) if the Commission has determined that the relevant third country has “equivalent” supervision and regulation. Unsurprisingly, the “equivalence” concept triggered substantial comments – it has caused similar debate when used in other recent European legislative proposals.

The scope of the regulation is extremely broad, capturing all manner of public and private benchmarks. The requirement that supervision and regulation in a third country must be equivalent before any benchmark from that country can be used in the EU seems unworkable, given that the regulation of benchmarks is relatively novel (and that there is consequently little time for other jurisdictions to develop an "equivalent" regulatory regime).

A new draft of the regulation published by the European Parliament’s Committee on Economic and Monetary Affairs (ECON) on 20 November 2013 contained some amendments to narrow the scope of the regulation, and also addressed the position of third-country index providers. This draft limited the scope to various defined categories of benchmarks, including “broadly used commodity benchmarks” and “benchmarks that reference the price of a financial instrument in substantial use in retail markets”, and confirmed that compliance with the Principles is sufficient for a third-country administrator to be deemed as equivalent with the proposed regulation.

One interesting perspective on the regulation is provided by the UK government in an opinion that it submitted to the Commission on 6 December 2013. Basing its argument on the principle of subsidiarity – namely, that action at EU level should “add value” and be undertaken only where the objectives cannot be delivered at national level – the UK government attacked the breadth of the proposal and argued that intervention at national level was a more appropriate means of addressing the problems associated with specific benchmarks. A clear case in point from the UK’s perspective are the steps being taken in the UK to regulate the production of, and criminalise manipulation of, LIBOR (the interest rate at which banks lend to each other in the London market). The UK’s view is that the Commission’s proposal to regulate, with a single set of detailed rules, such a varied universe of benchmarks is potentially harmful and burdensome on benchmark administrators and users.

The regulation will work its way through the European legislative process. In its current form, it is an ambitious and uncertain proposal. 

ESMA

Lastly, the European Securities and Markets Authority (ESMA) and the European Banking Authority (EBA) published a final report on principles for benchmark-setting processes in the EU in June 2013. These principles were presented as interim measures to help in the transition to any future legal framework. They are not directly binding, but local regulatory authorities (such as the UK’s Financial Conduct Authority) are required to adopt the principles into local law, or justify any alternative approach. The principles contain similar best practices for benchmark submitters and calculation agents as in the Commission’s draft regulation. As yet, the Financial Conduct Authority has not indicated whether or to what extent it will adopt these principles.

Conclusion

Given recent events, it is no surprise that benchmarks are coming under increased regulatory scrutiny. While the market protection argument is easy to understand, it is also clear that benchmarks can be incredibly complex, and there is unlikely to be an acceptable one-size-fits-all approach to successfully regulating their use and accuracy. ECON's revisions to the Commission’s proposed regulation appear to accept this, and are therefore to be welcomed. It is early days, however, and will be some time until we are at “on your marks”.

JN

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Dechert LLP | Attorney Advertising

Written by:

Dechert LLP
Contact
more
less

Dechert LLP on:

Readers' Choice 2017
Reporters on Deadline

"My best business intelligence, in one easy email…"

Your first step to building a free, personalized, morning email brief covering pertinent authors and topics on JD Supra:
Sign up using*

Already signed up? Log in here

*By using the service, you signify your acceptance of JD Supra's Privacy Policy.
Custom Email Digest
Privacy Policy (Updated: October 8, 2015):
hide

JD Supra provides users with access to its legal industry publishing services (the "Service") through its website (the "Website") as well as through other sources. Our policies with regard to data collection and use of personal information of users of the Service, regardless of the manner in which users access the Service, and visitors to the Website are set forth in this statement ("Policy"). By using the Service, you signify your acceptance of this Policy.

Information Collection and Use by JD Supra

JD Supra collects users' names, companies, titles, e-mail address and industry. JD Supra also tracks the pages that users visit, logs IP addresses and aggregates non-personally identifiable user data and browser type. This data is gathered using cookies and other technologies.

The information and data collected is used to authenticate users and to send notifications relating to the Service, including email alerts to which users have subscribed; to manage the Service and Website, to improve the Service and to customize the user's experience. This information is also provided to the authors of the content to give them insight into their readership and help them to improve their content, so that it is most useful for our users.

JD Supra does not sell, rent or otherwise provide your details to third parties, other than to the authors of the content on JD Supra.

If you prefer not to enable cookies, you may change your browser settings to disable cookies; however, please note that rejecting cookies while visiting the Website may result in certain parts of the Website not operating correctly or as efficiently as if cookies were allowed.

Email Choice/Opt-out

Users who opt in to receive emails may choose to no longer receive e-mail updates and newsletters by selecting the "opt-out of future email" option in the email they receive from JD Supra or in their JD Supra account management screen.

Security

JD Supra takes reasonable precautions to insure that user information is kept private. We restrict access to user information to those individuals who reasonably need access to perform their job functions, such as our third party email service, customer service personnel and technical staff. However, please note that no method of transmitting or storing data is completely secure and we cannot guarantee the security of user information. Unauthorized entry or use, hardware or software failure, and other factors may compromise the security of user information at any time.

If you have reason to believe that your interaction with us is no longer secure, you must immediately notify us of the problem by contacting us at info@jdsupra.com. In the unlikely event that we believe that the security of your user information in our possession or control may have been compromised, we may seek to notify you of that development and, if so, will endeavor to do so as promptly as practicable under the circumstances.

Sharing and Disclosure of Information JD Supra Collects

Except as otherwise described in this privacy statement, JD Supra will not disclose personal information to any third party unless we believe that disclosure is necessary to: (1) comply with applicable laws; (2) respond to governmental inquiries or requests; (3) comply with valid legal process; (4) protect the rights, privacy, safety or property of JD Supra, users of the Service, Website visitors or the public; (5) permit us to pursue available remedies or limit the damages that we may sustain; and (6) enforce our Terms & Conditions of Use.

In the event there is a change in the corporate structure of JD Supra such as, but not limited to, merger, consolidation, sale, liquidation or transfer of substantial assets, JD Supra may, in its sole discretion, transfer, sell or assign information collected on and through the Service to one or more affiliated or unaffiliated third parties.

Links to Other Websites

This Website and the Service may contain links to other websites. The operator of such other websites may collect information about you, including through cookies or other technologies. If you are using the Service through the Website and link to another site, you will leave the Website and this Policy will not apply to your use of and activity on those other sites. We encourage you to read the legal notices posted on those sites, including their privacy policies. We shall have no responsibility or liability for your visitation to, and the data collection and use practices of, such other sites. This Policy applies solely to the information collected in connection with your use of this Website and does not apply to any practices conducted offline or in connection with any other websites.

Changes in Our Privacy Policy

We reserve the right to change this Policy at any time. Please refer to the date at the top of this page to determine when this Policy was last revised. Any changes to our privacy policy will become effective upon posting of the revised policy on the Website. By continuing to use the Service or Website following such changes, you will be deemed to have agreed to such changes. If you do not agree with the terms of this Policy, as it may be amended from time to time, in whole or part, please do not continue using the Service or the Website.

Contacting JD Supra

If you have any questions about this privacy statement, the practices of this site, your dealings with this Web site, or if you would like to change any of the information you have provided to us, please contact us at: info@jdsupra.com.

- hide
*With LinkedIn, you don't need to create a separate login to manage your free JD Supra account, and we can make suggestions based on your needs and interests. We will not post anything on LinkedIn in your name. Or, sign up using your email address.