Please see the Markets and Markets Infrastructure section for ESMA’s statement with regards to payment for order flow and firms’ MiFID II obligations in relation to conflicts of interest and inducements.
CLLS response to FCA on financial promotion rules for high-risk investments and firms approving financial promotions
On 14 July, the Regulatory Law Committee of the City of London Law Society (CLLS) published its response (dated 5 July) to the FCA's discussion paper (DP21/1) on strengthening its financial promotion rules for high-risk investments and firms approving financial promotions. Points of interest include that the CLLS: (i) is concerned that as the restrictive regime for high-risk financial promotions has developed incrementally over recent years, it now represents a complex patchwork. It questions whether the FCA has exhausted a more principles-based approach to the challenge of high-risk investments in favour of a reliance on detailed technical rules which can be difficult for the firms to understand. The CLLS has, among other things, identified an increasing disconnect between the COBS 4 rules and the Financial Promotions Order (FPO) regime. It believes that FPO regime would benefit from a wider review, less focussed on prescriptive rules, and that the main issue in terms of protecting consumers from harmful advertisements is abuse of the financial promotions' perimeter. It also considers that new initiatives should mitigate the risk from scam investment advertisements, including a new dragnet approach and developing Online Safety legislation.
FCA letter to HoC Work and Pensions Committee on online financial promotions
On 13 July, the HoC Work and Pensions Committee published a letter (dated 11 June) sent to it by Nikhil Rathi, FCA Chief Executive answering questions with regards to the legislative reform of the financial promotions regime: (i) Online Safety Bill – the FCA believe that the best way to protect consumers from illegal online scams is for financial harm to be included as an online harm in the proposed Bill including both online advertising as well as user-generated content. Mr Rathi also suggests an amendment to ensure that the duties of care in the Bill encompass an obligation to prevent the communication of financial promotions which have not been approved by an FCA-authorised firm; (ii) financial promotions exemptions post-Brexit – since 1 January an exemption of electronic financial promotions from the scope of the financial promotions regime where these were made from an establishment in an EEA state other than the UK, no longer forms part of UK law. The Financial Promotions Order still contains another exemption which exempts communications made by online intermediaries where the communication would fall within the scope of one of the three safe harbours in the E-Commerce Directive. The FCA’s view is that this exemption does not apply when the intermediary has a significant role in optimising the content or actively determining which recipients receive particular promotions – most obviously in the case of paid for advertising. As a result of this change, the FCA are now looking at the operations of the major online platforms to determine whether they are now subject to the financial promotion restriction and, if so, whether they are compliant; and (iii) the FCA believes that the exemptions in the Financial Promotion Order for High Net Worth and Sophisticated investors are a significant vulnerability in the financial promotion regime. The FCA calls for changes to the ability to self-certify for the exemptions and changes to the thresholds in the exemptions.
FCA financial promotion case studies
On 9 July, the FCA published a webpage setting out good and bad practice case studies when promoting financial services and its expectations for promotions to be clear, fair and not misleading. The case studies include videos on the common mistakes made in a car finance hire purchase promotion and for a claims management promotion. The FCA recommends that firms review its Perimeter Guidance Manual which sets out the legal definition of a financial promotion, and what would be considered merely a communication to reference the firm’s brand (image advertising).
ESMA report to EC on simplification and harmonisation of fees to trade repositories under EMIR and SFTR
On 13 July, ESMA published a report providing technical advice to the EC to review the Commission Delegated Regulations on fees for trade repositories (TRs) under EMIR and SFTR.
Please see the Other Developments section for the G20’s Communiqué where it reiterates its support for FATF and welcome its recent reports.
ESMA consults on amendments to MAR guidelines on delayed disclosure of inside information
On 15 July, ESMA began consulting on the review of its guidelines on delayed disclosure of inside information under MAR in relation to its interaction with prudential supervision. ESMA explains that issuers, under MAR, can delay the disclosure of inside information where immediate disclosure is likely to prejudice an issuer's legitimate interest, the delay of disclosure is not likely to mislead the public and confidentiality is ensured. The ESMA MAR Guidelines include a list of legitimate interests of issuers that are likely to be prejudiced by immediate disclosure of inside information. ESMA intends to build and expand on these guidelines, in the context of the interaction between the MAR transparency obligations vis-à-vis inside information and the prudential supervisory framework. The deadline for comments is 27 August. ESMA expects to publish a final report with the amended guidelines by the end of 2021.
Money Laundering and Terrorist Financing (Amendment) (No. 2) (High-Risk Countries) Regulations 2021
On 12 July, the Money Laundering and Terrorist Financing (Amendment) (No 2) (High-Risk Countries) Regulations 2021 were made. The Regulations amend the MLRs 2017 by substituting the list of high-risk third countries in Schedule 3ZA for a new list. Ghana is no longer classed as a high-risk country for the purposes of enhanced customer due diligence requirements, whereas Haiti, Malta, the Philippines and South Sudan have been added to the list. The Regulations came into force on 13 July.
ECON adopts report on proposed Regulation on a pilot regime for DLT market infrastructures
On 13 July, the EP’s Economic and Monetary Affairs Committee (ECON) announced that it had adopted a report on the proposed Regulation on a pilot regime for market infrastructures based on DLT. ECON voted that financial instruments services by DLT market should be limited and subject to value thresholds: (i) shares (market capitalisation of less than EUR 200 million); (ii) bonds including sovereign bonds (issuance size of less than EUR 500 million); (iii) exchange-traded funds (issuance size of less than EUR 500 million); and (iv) units of collective investment undertakings (issuance size of less than EUR 500 million). Additionally, operators of DLT can admit new financial instruments only until their total market value reaches EUR 5 billion. ECON proposes that DLT market infrastructures and their operators must have in place adequate safeguards to ensure the effective protection of investors related to the use of DLT, including clearly defined lines of liability to clients for any losses due to operational failures. ECON notes that new entrants should be able to access the pilot regime provided they ensure compliance with the same requirements as authorised investment firms or market operators. ECON states that ESMA should have a direct supervisory mandate for granting permissions and exemptions to a DLT market infrastructure across the EU, after consulting national competent authorities. During the lifecycle of the DLT pilot regime, ECON proposes that ESMA publishes annual interim reports about the most important trends, risks, and vulnerabilities, with the first report to be published after the first year, and the final report after five years.
CPMI, BIS, IMF and World Bank joint report on CBDCs for cross-border payments
On 9 July, the Committee on Payments and Market Infrastructures (CPMI), the BIS Innovation Hub, the International Monetary Fund (IMF) and the World Bank jointly published a report for the G20 on the use of CBDCs for cross-border payments. The report explains that domestic issuance of CBDC will be subject to considerable further economic and practical examination before exploration of cross-border use will gather pace. Furthermore, enhancements in other areas of the cross-border payments programme, such as aligning regulatory, supervisory and oversight frameworks for cross-border payments, AML/CFT consistency, payment vs payment adoption and payment system access, will be critical for cross-border CBDC use. The report concludes that CBDCs have the potential to enhance the efficiency of cross-border payments, as long as their design follows the “Hippocratic Oath for CBDC design” and its premise to “do no harm”. The coordination of national CBDC designs could lead to more efficient cross-currency and cross-border payments, as cross-border CBDCs could offer the opportunity to start with a “clean slate”, and address the frictions inherent in current cross-border payment systems and arrangements from the outset. The enhancements could be made by offering secure settlement, reducing costly and lengthy intermediation chains throughout the payment process, and eliminating operating hour mismatches by being accessible 24/7. The report calls for further exploration on CBDC design choices and their macro-financial implications, in order to achieve the potential benefits for public welfare while preserving financial stability.
Please see the Other Developments section for a letter from Andrew Bailey, BoE Governor and Chairman of the Financial Policy Committee (FPC), responding to a letter from Rishi Sunak, Chancellor of the Exchequer, on the remit and recommendations for the FPC for 2021/22.
Please see the Sustainable Finance section for the announcement that a further delay of six months is needed for the application of the regulatory technical standards on ESG disclosures under the SFDR.
EC consults on proposed Regulation to extend exemption from KID requirement under PRIIPs Regulation
On 15 July, the EC began consulting on a draft Regulation amending the PRIIPs Regulation to provide for an extension of the transitional arrangement for management companies, investment companies and persons advising on, or selling, UCITS and non-UCITS. The EC explains that the PRIIPs Regulation requires PRIIPs manufacturers to comply with a uniform set of product disclosure requirements and provide retail investors with a key information document (KID) on each PRIIP they offer. The PRIIPs Regulation provides for a temporary exemption from the requirement to provide retail investors with a KID for management companies, investment companies and persons advising on, or selling, units of UCITS and non-UCITS until 31 December. The ESAs are currently in the process of developing regulatory technical standards (RTS) specifying the presentation and the content of the KID, its standard format, the methodology for presenting risk and reward and calculating costs, the conditions and minimum frequency for reviewing the information in the KID and the conditions on providing the KID to retail investors. In order to give the time needed to complete the legislative procedure of the RTS, allow their implementation and to reduce legal uncertainty, the EC proposes in the draft Regulation to extend the transitional arrangement to 30 June 2022.
BoE and FCA conclusions of review into UK open-ended funds
On 13 July, the BoE and the FCA set out the conclusions of their review into vulnerabilities associated with liquidity mismatch in open-ended funds. In concluding the review, the BoE and the FCA have suggested possible frameworks for: (i) how an effective liquidity classification framework for funds could be designed: (a) it would capture the full spectrum of liquid and illiquid assets, and consider both normal and stressed conditions; (b) it should play a role in the design of a fund and in determining appropriate redemption terms; and (c) a consistent and realistic classification of the liquidity of funds’ assets could be used to enhance funds’ internal risk management practices, particularly stress testing; and (ii) for enhancing the calculation and use of swing pricing: (1) more consistent and complete swing pricing could be developed in order to better reflect the costs of exiting a fund and also to promote financial stability by reducing first mover advantage; (2) swing pricing adjustments should be subject to periodic review to assess whether they remain valid and ensure reasonable levels of confidence around estimates; and (3) consideration should be given to the adequate level of transparency regarding the approach to and effects of swing pricing. In the July 2021 Financial Stability Report, the Financial Policy Committee (FPC) fully endorses the proposed framework for liquidity classification and swing pricing, and views it as an important contribution to the international work currently in train. The FPC judges that this framework could reduce the risks arising from the liquidity mismatch in certain funds.
Financial Stability Report
ESMA letter to EC on interpretation and application date of EU Crowdfunding Regulation
On 9 July, ESMA published a letter sent to the EC to share its concerns in relation to interpretation issues and issues in relation to the dates of application of the Regulation on the European crowdfunding service providers for business (ECSPR). ESMA requests clarification on: (i) the transitional period set out in Article 48 with respect to crowdfunding services provided in accordance with national law; (ii) the meaning of ‘business activity’ pursuant to point (l) of Article 2(1); (iii) the legal status of the provision of ‘individual portfolio management of loans’ in light of points (a) and (c) of Article 2(1); (iv) the scope of the prohibition to prevent prospective non-sophisticated or non-sophisticated investors from investing in crowdfunding projects pursuant to the second subparagraph of Article 21(6); (v) the scope of the prohibition made to crowdfunding service providers to pay or accept any remuneration, discount or non-monetary benefit for directing investors’ orders to a particular crowdfunding offer made on their crowdfunding platform or to a particular crowdfunding offer made on a third-party crowdfunding platform; and (vi) the respective responsibilities of crowdfunding service providers and project owners regarding the content of the key investment information sheet. ESMA states, with regard to dates of application of technical standards, that it is already unavoidable that the full endorsement process will not be concluded before the ECSPR application date on 10 November. ESMA believes that slightly delaying the date of application of the ECSPR, would enable a more orderly and harmonised application of this new and important piece of legislation.
Please see the FinTech section for the EP’s Economic and Monetary Affairs Committee announcement that it had adopted a report on the proposed Regulation on a pilot regime for market infrastructures based on DLT.
EC final Delegated Regulation specifying the criteria for establishing when an activity is to be considered to be ancillary to the main business at group level under MiFID II
On 15 July, the EC published the final version of the Delegated Regulation, supplementing MiFID II and repealing Delegated Regulation (EU) 2017/592, specifying the criteria for establishing when an activity is to be considered to be ancillary to the main business at group level. The EC explains that the Ancillary Activity Exemption has been amended and therefore this Delegated Regulation deletes the Overall Market Size Test of Article 2 of Delegated Regulation 2017/592 and introduces the new De-Minimis Threshold Test. The amended Ancillary Activity Exemption does not change the established calculation methodology of the Trading Test and Capital Employed Test. The only change to these two tests is the level of the corresponding threshold as set out in Directive (EU) 2021/338.The EC explains that this Delegated Regulation continues to apply the established calculation methodologies and principles of the Delegated Regulation 2017/592. These are already implemented by non-financial firms and accordingly supervised by financial regulators. The EC explain that this guarantees an efficient transition to the new Ancillary Activity Exemption regime and avoids additional implementation efforts by non-financial firms and national competent authorities. In order to address the legal uncertainty that would arise for those non-financial groups that do not have a complete and representative set of data covering their main and ancillary activities, a calculation period of three years is also maintained from Delegated Regulation 2017/592. This Regulation shall enter into force on the twentieth day following that of its publication in the OJ.
ESMA 3rd annual report on supervisory measures and penalties under Articles 4, 9, 10 and 11 of EMIR
On 15 July, ESMA published its 3rd annual report on the penalties imposed by competent authorities, including supervisory measures, fines and periodic penalty payments, covering the period from January 2019 to December 2020. The report highlights among other aspects: (i) an increase in the use of EMIR data for supervisory purposes; (ii) greater clarity on which counterparties are subject to the clearing obligation thanks to the expanded clearing threshold notification mechanism introduced under EMIR Refit; (iii) some challenges in looking at group activities; (iv) a need for more supervisory measures regarding third country entities with a link to the EU; and (v) the benefits of exchanges among national competent authorities, facilitated by ESMA with initiatives such as workshops to discuss supervisory cases. In addition, the report also includes reference to enforcement cases, which for the period covered, resulted in the imposition of sanctions in France, Italy, Liechtenstein and Luxembourg.
EC consults on Draft Delegated Act on adjustment of the threshold for the notification of significant net short positions in shares
On 15 July, the EC began consulting on a draft Delegated Regulation amending the Short Selling Regulation (SSR) as regards the adjustment of the relevant threshold for the notification of significant net short positions in shares. The explanatory memorandum explains that on 16 March 2020, ESMA made use of its emergency intervention powers under Article 28 of the SSR and issued a decision to lower the notification threshold for net short positions in shares admitted to trading on a regulated market from 0.2% to 0.1% for a period of three months. ESMA subsequently renewed that decision in June, September and December 2020. The events following the Covid-19 outbreak and the increased visibility obtained by competent authorities on volumes of net short positions have convinced ESMA that the notification threshold should be established at 0.1% on a permanent basis. The explanatory memorandum also sets out ESMA’s reasoning, which it provided to the EC in an opinion in May. The deadline for comments is 12 August.
Euro Risk Free Rates Working Group letter to EC requesting support on transition from EONIA
On 15 July, ESMA published a letter from the Chairman of the Euro Risk Free Rates Working Group to the EC, to request its support with regards to the transition from EONIA to the Euro Short Term Rate (€STR). The Working Group proposes that the EC designate a statutory replacement rate for EONIA as part of a comprehensive solution for cash and derivative products. The Working Group believe that given the slow pace of transition resulting from long bilateral renegotiation processes, the Covid-19 pandemic and Brexit, contingency plans will have to be triggered for contracts and transactions referencing EONIA without successful renegotiation. Therefore it recommends that a fallback to €STR+8.5 basis points should be incorporated into new and legacy contracts that continued to reference EONIA. The Working Group recognises that the primary objective of market participants should remain to actively transition to €STR flat which is in line with the approach of key central counterparties such as the LCH and Eurex and ensures homogeneity in risk management across the market. Any decision made by the EC to designate a statutory replacement should not impede progress of market participants actively transitioning to €STR flat.
GFXC updates FX Global Code, publishes new templates for disclosures and guidance on pre-hedging
On 15 July, the Global FX Committee (GXFC) completed its review of the FX Global Code, updating its principles of good practice in the FX market in several key areas. Updates have been made to eleven of the Code's fifty-five principles and strengthen the Code's guidance on anonymous trading, algorithmic trading and transaction cost analysis, disclosures and settlement risk. The GFXC is also publishing a guidance paper on pre-hedging. The paper discusses the circumstances in which pre-hedging could be used in the FX market and the controls and disclosures that could help align this activity with the Code. A guidance paper on Last Look is being finalised for publication in August.
FX Global Code
FCA consults on LIBOR transition and the derivatives trading obligation
On 14 July, the FCA began consulting on LIBOR transition and the derivatives trading obligation (DTO). As specified in Article 28 of UK MiFIR, the DTO requires that financial and certain nonfinancial counterparties conclude transactions in standardised and liquid OTC derivatives only on regulated trading venues. Currently, the classes of derivatives that are subject to DTO are swaps referencing USD LIBOR, GBP LIBOR and EURIBOR and index Credit Default Swaps for contracts with standardised terms, such as payment frequency, trade start type, and notional amount type. The FCA is: (i) proposing to modify the list of derivatives subject to the DTO in line with Articles 28 and 32 of UK MiFIR; and (ii) review the DTO in light of the interest rate benchmark reform and the consequential changes that the BoE has proposed to the derivatives clearing obligation in line with Article 5 of UK EMIR. The FCA states that: (i) OTC derivatives based on benchmark rates that are being discontinued or may continue on an unrepresentative basis and become subject to use restrictions under the UK BMR need to be excluded from the DTO to ensure its scope remains relevant; (ii) the DTO should extend to derivatives based on relevant risk-free rates that will replace them, provided they are sufficiently liquid or are likely to become sufficiently liquid as transition plans approach or reach completion. The deadline for comments is 25 August. The FCA expects to finalise the draft RTS and publish a policy statement late Q3/early Q4 2021.
ESMA consults on EMIR reporting guidelines
On 13 July, ESMA began consulting on draft guidelines for reporting trades in derivatives under Article 9 of EMIR and on obligations for trade repositories (TRs) under Articles 78 and 81. The consultation includes draft guidelines on a range of topics related to reporting, data quality and data access under EMIR Refit. ESMA has also published validation rules that clarify dependencies between data fields, as well as their applicability in the different use cases. The consultation focuses on: (i) how reports should be constructed and in what circumstances reports should be made; (ii) reporting logic, including the use of action and event types; (iii) reporting in the case of delegation as well as under provisions on allocation of responsibility for reporting; (iv) the population of specific sections of fields; and (v) the correct population of fields for different reporting scenarios and different products. The draft guidelines clarify important aspects of the procedures to be implemented by reporting entities and TRs to enhance data quality. The consultation also clarifies certain operational aspects concerning data access. The deadline for comments is 30 September. ESMA expects to publish a final report in Q4 2021/Q1 2022 (subject to the adoption of the draft technical standards on reporting by the EC).
ESMA statement on supervisory approach on the MiFIR open access provisions for ETDs
On 13 July, ESMA issued a statement with regards to its supervisory approach on the MiFIR open access provisions for exchange traded derivatives (ETDs). ESMA explains that a number of national competent authorities (NCAs) had, under Article 54(2), temporarily exempted trading venues and CCPs from the MiFIR access provisions for ETDs, which expired on 3 July. ESMA states that the Council and the EP have indicated support for an extension to 3 July 2023, in the form of a draft amendment as part of the Proposal for a Regulation on a pilot regime for market infrastructures based on distributed ledger technology.
Working Group on Euro Risk-Free Rates updates terms of reference
On 13 July, the Working Group on Euro Risk-Free Rates published an update to its terms of reference. The Working Group explains that it completed its initial mandate in May, however the ECB, the Financial Services and Markets Authority, ESMA and the EC have agreed on the need to maintain the Working Group under an updated mandate and terms of reference in order to support the full delivery of interest rate reform in the EU. Following the publication of the recommendations on EURIBOR fallback trigger events and €STR-based EURIBOR fallback rates, the Working Group’s updated mandates include: (i) promoting the transition from EONIA to €STR by the end of 2021, identifying potential impediments to the transition to €STR and recommending workable solutions; (ii) fostering the use of €STR in a diverse range of financial products, including by proposing best practices, and assessing the evolution of the use of interest rates in the EU; (iii) assessing the availability of EURIBOR fallback rates to be published by one or more administrators; (iv) identifying potential impediments to the timely adoption of EURIBOR fallback provisions by EU supervised entities and putting forward recommendations and best practices to assist in overcoming such impediments; and (v) identifying potential issues related to the impact of LIBOR discontinuation in the EU and recommending viable solutions.
Terms of reference
ESMA warns firms and investors about risks arising from payment for order flow
On 13 July, ESMA issued a statement to remind firms that the receipt of payment for order flow (PFOF) touches upon a number of key MiFID II obligations aimed at ensuring that they act in their clients’ best interest when executing their orders. In light of the serious investor protection concerns raised by PFOF and the multiple requirements applying to it, ESMA states that it is in most cases unlikely that the receipt of PFOF by firms from third parties would be compatible with MiFID II and its delegated acts. PFOF is the practice of brokers receiving payments from third parties for directing client order flow to them as execution venues. ESMA states that the receipt of PFOF from third parties by a firm executing client orders causes a clear conflict of interest between the firm and its clients because it incentivises the firm to choose the third party offering the highest payment, rather than the best possible outcome for its clients. ESMA states that PFOF received from third parties when executing client orders constitutes an inducement for the purposes of MiFID II. It highlights that firms receiving PFOF when executing client orders must comply with the quality enhancement and best interest requirements and clearly disclose the existence, nature and amount of PFOF to the client. ESMA also reminds “zero-commission brokers” that as their clients will always incur costs (e.g. implicit costs and third party payments received by the firm), the marketing of the service as “cost-free”, will infringe the firm’s compliance with the MiFID requirements and it could incentivise retail investors’ gaming or speculative behaviour due to the incorrect perception that trading is free. ESMA requests National Competent Authorities (NCAs), especially in those Member States in which PFOF has been observed, to prioritise this topic in their supervisory activities for 2021 or early 2022.
ESMA methodology for assessing third country CCPs systemic importance under EMIR
On 13 July, ESMA published its methodology for assessing whether a third country central counterparty (TC-CCP) or some of its clearing services are of such substantial systemic importance that the TC-CCP should not be recognised to provide certain clearing services or activities in the EU. The methodology includes: (i) an extended tiering methodology; (ii) reflections to identify how compliance with the conditions for TC-CCPs recognition would not sufficiently address EU financial stability risks; and (iii) a set of elements to take into consideration in the analysis of costs, benefits, and consequences, including a comprehensive analysis of risks related to both recognition and non-recognition.
Working Group paper on active transition of legacy GBP LIBOR loan contracts
On 9 July, the Working Group on Sterling Risk-Free Reference Rates published a paper to assist borrowers in understanding and achieving the end-Q3 milestone for active transition of legacy GBP LIBOR loans. The paper states that borrowers should expect lenders to be engaging with them on the active transition of legacy GBP LIBOR contracts, aiming to complete this process by end-Q3 where possible. This reflects a milestone recommended by the Working Group intended to help to reduce resource constraints towards the end of 2021 and ensure preparedness for the cessation of GBP LIBOR at the end of 2021. The paper encourages borrowers to actively engage with their lenders and advisers to understand what this milestone means for them, how they can achieve it and how to ensure their readiness for LIBOR transition more broadly.
Implementing Regulation removing LIBOR from list of critical benchmarks under BMR published in OJ
On 9 July, Commission Implementing Regulation (EU) 2021/1122 amending Implementing Regulation (EU) 2016/1368 adding the Norwegian Interbank Offered Rate to and removing LIBOR from the list of critical benchmarks used in financial markets established pursuant to the BMR, was published in the OJ. The Implementing Regulation entered into force on 10 July.
FCA statement on supervision of commodity position limits
On 9 July, the FCA published a statement on the supervision of commodity position limits. The FCA explains that HMT is currently consulting on its wholesale markets review, including specific proposals on reforming the MiFID commodity derivatives position limits regime. HMT proposes changes that would limit the scope of position limits to agricultural contracts and physically settled contracts. The FCA has decided that while change to the scope of the regime is being considered by HMT, the FCA will not take supervisory or enforcement action in relation to commodity derivative positions that exceed position limits on cash-settled commodity derivative contracts, unless the underlying is an agricultural commodity. This statement does not apply to physically deliverable or agricultural commodity derivative contracts – where final settlement can be in the form of physical settlement of the underlying commodity – or where the underlying is an agricultural commodity. The FCA notes that its position does not affect the responsibilities on members or participants of a trading venue under the position management rules of that venue. Further, it does not affect its expectation that firms trading or arranging trades in commodity derivatives comply with their other market conduct obligations including requirements set out under MAR.
FCA provides clarity on reporting under UK EMIR and UK MiFIR in relation to transition from LIBOR
On 9 July, the FCA published a follow up statement on its expectations on the approach firms should take to reporting references to LIBOR in OTC derivative contracts under Article 9 of UK EMIR. The FCA provides further clarity as to how modifications as a result of amendments to a reference rate or applying a fallback in place of LIBOR, should be reported. The statement covers the: (i) reporting of fallbacks in accordance with the ISDA protocol; (ii) reporting of bespoke fallbacks; and (iii) reporting where a reference rate is otherwise amended. The FCA also published a webpage in order to provide clarity for investment firms and trading venues submitting UK MiFIR transaction reports and instrument reference data in relation to LIBOR transition. The FCA addresses two scenarios: (a) a new transaction report should not be submitted where the only amendment to the contract is the reference rate (e.g. from LIBOR to an alternative rate) and associated spread. Where other amendments are made to the contract that result in a reportable transaction, a new transaction report should be submitted in accordance with the applicable requirement; and (b) where the change in reference rate would result in a new international securities identification number (ISIN) being generated on request, trading venues should request the new ISIN, terminate the existing instrument and submit financial instrument reference data for the new instrument. If the change would not result in a new ISIN being generated, and no other changes are being made to the instrument that would result in a new ISIN being generated, no action is required by trading venues.
ESMA consults on derivatives clearing and trading obligations in view of benchmarks transition
On 9 July, ESMA began consulting on the review of the regulatory technical standards (RTS) specifying the classes of derivatives subject to the clearing obligation and trading obligations (DTO) under Article 5(2) of EMIR and Article 32 of MiFIR, respectively. The draft RTS relate to the benchmark transition away from EONIA and LIBOR and on to new Risk-Free Rates such as €STR, SONIA and SOFR, in the OTC interest rate derivatives market. There are currently three Commission Delegated Regulations on the clearing obligation and one on the DTO, which mandate a range of interest rate and credit derivative classes to be cleared, and for a subset of these, to also be traded on venue. In view of this transition, there is a need to review the scope of the clearing obligation and the DTO for the classes and currencies impacted by these changes, namely interest rate derivative classes in EUR, GBP, JPY and USD. The deadline for comments is 2 September. ESMA expects to finalise the draft RTS in the autumn, to then be submitted to the EC for endorsement.
ESMA consults on the review of transparency requirements under MiFIR
On 9 July, ESMA began consulting on its review of the regulatory technical standards (RTS) on equity and non-equity transparency requirements under MiFIR. Given the parallel work of the EC on reviewing MiFIR, the review is limited in scope and focuses on technical issues and topics that do not require amendments to the Level 1 text, including: (i) providing more clarity on non-price forming transactions and the reporting of such transactions which will help obtain a better picture of the actual split between trading activity executed on trading venues and OTC trading; (ii) a recalibration of the regime for commodity derivatives, ensuring better tailored transparency requirements for this class of derivatives; (iii) providing further clarity on the reporting fields for post-trade transparency and the reporting of reference data with the overall objective of improving the quality of post-trade transparency data; (iv) providing clarification on the pre-trade transparency requirements for new types of trading systems; and (v) increasing the pre- and post-trade large in scale thresholds for the trading of exchange traded funds (ETFs) to achieve a more meaningful level of transparency in the ETF market. The proposals reflect the findings and recommendations of various MiFID review reports published by ESMA in 2019 and 2020 as well as the feedback provided by stakeholders on necessary amendments to the two RTS over the last years. The deadline for comments is 1 October. ESMA aims to publish a final report and submit draft RTS to the EC for adoption in Q1 2022.
Benchmarks (Provision of Information and Documents) Regulations 2021
On 9 July, the Benchmarks (Provision of Information and Documents) Regulations 2021 were published together with an explanatory memorandum. These Regulations make provision for a notice or permission given by the FCA to an administrator of a critical benchmark under new Articles 22A, 22B, 23A and 23D of the BMR. These Articles were inserted into the BMR by the Financial Services Act 2021 and form part of a suite of amendments to the BMR to provide the FCA with additional powers to manage an orderly wind-down of a critical benchmark. These Regulations will be used for the wind-down of LIBOR, however, these Regulations apply to any critical benchmark regulated under the BMR. These Regulations give clarity both to the FCA and to the administrator of a critical benchmark about when a notice or permission is deemed received by the administrator.
Please see the Other Developments section for the G20’s Communiqué from its Third Finance Ministers and Central Bank Governors Meeting where they discuss the G20’s Roadmap to enhance cross-border payments.
Please see the FinTech section for the Committee on Payments and Market Infrastructures, the BIS Innovation Hub, the International Monetary Fund and the World Bank joint report for the G20 on the use of CBDCs for cross-border payments.
EBA consults on the draft guidelines on the limited network exclusion under PSD2
On 15 July, the EBA launched a consultation on draft guidelines providing clarity on the application of the limited network exclusion requirements, which certain payment instruments might benefit from, under Article 3(k) of PSD2 and the related notification requirements in Article 37. Given the significant inconsistencies the EBA has identified on how this exclusion is applied across the EU, the proposed guidelines aim at clarifying specific aspects of its application, including on: (i) how a network of service providers or a range of goods and services should be assessed in order to qualify as ‘limited’; (ii) the use of payment instruments within limited networks; (iii) the provision of excluded services by regulated financial institutions; and (iv) the submission of notifications to competent authorities. A public hearing will take place online on 8 September. The deadline for comments is 15 October.
Council of the EU publishes Regulation on cross-border payments in the EU
On 14 July, the Council of the EU published the text of the Regulation on cross-border payments in the EU. This Regulation codifies Regulation (EC) No 924/2009 on cross-border payments in the Community. The Council explain that Regulation (EC) No 924/2009 has been substantially amended several times and therefore codification is necessary in the interests of clarity and rationality. This Regulation shall enter into force on the twentieth day following that of its publication in the OJ.
Please see the Financial Crime section for ESMA’s consultation on the review of its guidelines on delayed disclosure of inside information under MAR in relation to its interaction with prudential supervision.
PRA removes guardrails on shareholder distributions
On 13 July, the PRA announced that it was removing the guardrails, set on 10 December 2020, within which it asked bank boards to determine the appropriate level of distributions in relation to full-year 2020 results. Taking into account the interim results of the 2021 solvency stress test (SST), the PRA judges that banks remain well capitalised and resilient to outcomes for the economy that are much more severe than the Monetary Policy Committee’s central forecast, and that they should therefore be able to support households and businesses through the economic recovery. In addition, although considerable uncertainty remains, the level of uncertainty has decreased significantly since December 2020, in particular due to the progress of vaccination programmes. The PRA notes however that as the Government’s support measures unwind over the coming months, bank boards should continue to exercise an appropriate degree of caution around the level of any shareholder distributions. The full and final results of the 2021 SST, including bank-specific outcomes, will be published in Q4 2021.
EBA final guidelines for the use of data inputs in the expected shortfall risk measure under the CRR Internal Model Approach
On 13 July, the EBA finalised its guidelines on criteria for the use of data inputs (used to determine the scenarios of future shocks applied to the modellable risk factors) in the risk-measurement model referred to in Article 325bc under Article 325bh(3) of the CRR. Institutions using the alternative Internal Model Approach for market risk are required to compute the expected shortfall risk measure for their modellable risk factors, i.e. for those risk factors for which a sufficient amount of verifiable prices is available. The guidelines set out criteria in relation to the accuracy, appropriateness, frequency for updating and completeness of the data inputs used by institutions. These criteria aim at ensuring that data inputs are calibrated to historical data reflective of prices observed or quoted in the market, that they capture, where relevant, both general and specific risks, that their update is performed frequently enough and whenever changes in market conditions so require, and that any missing or inconsistent values in those data inputs are properly replaced. Some amendments have been made to the draft guidelines, following feedback from stakeholders, to clarify certain provisions. The guidelines will apply from 1 January 2022.
Draft Capital Requirements Regulation (Amendment) Regulations 2021
On 12 July, the draft Capital Requirements Regulation (Amendment) Regulations 2021 were published, together with a draft explanatory memorandum. Through this instrument, HMT is revoking certain provisions of the CRR so that the PRA will then replace relevant provisions with rules, taking into account the updated Basel III standards, as set out in CRR II. This instrument exercises the powers contained in section 3 of the Financial Services Act to revoke provisions of the CRR and also exercises powers in the European Union (Withdrawal) Act 2018 to fix deficiencies which have arisen out the UK’s exit from the EU. Once the Regulations are made, the PRA will be able to make final rules concerning the CRR II Basel standards, which it published in near-final form on 9 July (see below).
Draft explanatory memorandum
PRA policy statement on implementation of final Basel III standards
On 9 July, the PRA published a policy statement setting out the feedback to responses to its consultation on the implementation of Basel standards and the near-final rule instruments, Statement of Policy, Supervisory Statements, reporting templates and instructions. The policy material is near-final as the PRA must wait for HMT to first revoke the relevant parts of the CRR, before the PRA can replace them in PRA rules. Among other minor changes, the PRA has: (i) changed a number of Required Stable Funding factors under the net stable funding ratio, including those applicable to certain centrally cleared derivatives transactions; (ii) postponed the application of the mandatory substitution approach to large exposures that are secured by collateral issued to a third party, pending further consultation and impact assessment; (iii) decided to consider, on a case-by-case basis, applications from firms to increase their non-core large exposures group limits to offset the impact of applying standardised approach to counterparty credit risk (SA-CCR) instead of the internal model-method; (iv) introduced a notification requirement that applies if firms’ exposures to collective investment undertakings are material; and (v) decided to implement the proposed SA-CRR framework as set out in the consultation. This policy is intended to take effect at the same time as HMT’s revocation of the relevant parts of the CRR, on 1 January 2022.
ESMA launches seven consultations on CCP recovery regime
On 12 July, ESMA began seven consultations on how to implement its central counterparty (CCP) recovery mandates. The consultations are on: (i) draft guidelines further specifying the circumstances for temporary restrictions in the case of a significant non-default event; (ii) draft guidelines on the consistent application of the triggers for the use of early intervention measures; (iii) draft RTS on the methodology for calculation and maintenance of the additional amount of pre-funded dedicated own resources; (iv) draft guidelines on CCP recovery plan indicators; (v) draft RTS on order of compensation under Art. 20; (vi) draft guidelines on CCP recovery plan scenarios; and (vii) draft RTS further specifying the factors that shall be considered by the competent authority and the supervisory college when assessing the CCP recovery plan. The deadline for comments is 20 September. ESMA will organise an open hearing on the consultations on 14 September. ESMA will consider the responses to this consultation with a view to publishing the final reports by Q4 2021/Q1 2022.
Please see the Other Developments section for the G20’s Communiqué discussing various sustainable finance-related initiatives, and a letter from Andrew Bailey, BoE Governor and Chairman of the Financial Policy Committee (FPC), responding to a letter from Rishi Sunak, Chancellor of the Exchequer, on the remit and recommendations for the FPC for 2021/22.
EU Platform on Sustainable Finance calls for feedback on social taxonomy and on taxonomy extension options linked to environmental objectives
On 12 July, the EU Platform on Sustainable Finance published two draft reports for feedback on a social taxonomy, and on taxonomy extension options linked to environmental objectives. The draft report on a social taxonomy: (i) suggests a structure for a social taxonomy; and (ii) considers the relationship between the social and environmental taxonomies and the regulatory environment. The report suggests how to ensure a balance between the two taxonomies, such as by ensuring that minimum environmental safeguards should be part of whatever social taxonomy is decided on. The suggested structure of a social taxonomy would be both vertical and horizontal, with the vertical dimension focusing on products and services for basic human needs and basic infrastructure and the horizontal dimension taking into account impacts on different groups of stakeholders affected by economic activities – workers, including value chain workers, consumers and communities. Sustainable corporate governance is regarded as setting the bar for environmental and social sustainability in economic entities. In this particular area, the focus is on topics such as bribery, taxation and lobbying. The draft report on taxonomy extension options linked to environmental objectives examines the premises, issues and options for and against extending the EU Taxonomy ‘beyond green’ to include significantly harmful activities and no significant impact activities (both in relation to environmental sustainability) within the overall EU sustainable finance framework. The Platform emphasises that this report is a work in progress. The deadline for comments on both reports is 27 August. The Platform will submit final reports with their advice to the EC in autumn 2021.
EC further delays sustainable finance rules for asset managers under SFDR
On 9 July, in a letter sent to the EP (published by Reuters), the EC announced that a further delay of 6 months was needed for the application of the regulatory technical standards (RTS) on ESG disclosures under the Sustainable Finance Disclosure Regulation (SFDR). The EC states that it plans to bundle all 13 of the RTS (including those that focus on the content and presentation of sustainability disclosures) in a single delegated act to apply from 1 July 2022.
Complaints Commissioner report on how the financial services regulators consider complaints
On 15 July, the Office of the Complaints Commissioner (OCC) published its annual report for 2020/21, which covers the period from 1 April 2020 to 31 March 2021. Points of interest include: (i) the OCC dealt with 393 complaints during the year, compared to 275 the previous year (circa 43% increase); (ii) complaints about the way the FCA regulates and supervises firms have continued to be at the centre of the OCC’s work; (iii) the OCC will monitor the FCA's progress in implementing its Transformation programme, which seeks to improve its approach to regulating firms. In its response to the report, the FCA welcomes the Commissioner’s first report since she was appointed and agree that there is still more for the FCA to do in order to improve. The FCA sets out its improvements over the past year which have included a significant enhancement of its complaints-handling system and underlying data, making how it processes and records complaints data more effective.
FCA Business Plan 2021/22
On 15 July, the FCA published its 2021/22 business plan. Over the next year the FCA priorities are: (i) to progress the four priorities identified in last year’s Business Plan - enabling effective consumer investment decisions, ensuring consumer credit markets work well, making payments safe and accessible and delivering fair value in a digital age; (ii) to take forward the new Consumer Duty; (iii) to continue to enhance market integrity by reinforcing the effectiveness of UK wholesale markets and enhancing its supervisory approach to specific issues; and (iv) to focus on six of the most important cross-market issues; fraud, financial resilience, operational resilience, improving diversity and inclusion, enabling a more sustainable financial future, and international cooperation. Specific priorities that the FCA highlights include: (a) in consumer markets - (1) publishing its 3-year Consumer Investments Strategy; (2) strengthening rules on financial promotions to protect consumers in relation to investments; (3) a consumer campaign on scams and high-risk investments; and (4) progressing proposals for a new Consumer Duty to raise standards in firms’ treatment of consumers; (b) in wholesale markets – following Brexit, continuing to develop plans to make primary and secondary markets work better while maintaining high standards; and (c) cross-cutting priorities – (1) using the FCA’s authority and influence to work with partners to help drive down the incidence and impact of fraud; (2) improving diversity and inclusion, both at the FCA and in regulated firms; and (3) supporting environmental goals by adapting the regulatory framework to enable a market-based transition to net-zero carbon emissions. In early 2022, the FCA will publish its wholesale and retail strategies to set out its ambitions for these markets. In his speech on the Business Plan, FCA CEO Nikhil Rathi discusses the FCA’s three transformative aims: (i) to be more innovative – over the next 5 years, the FCA plans to fully capitalise on data and technology; (ii) to be more assertive – to ensure consumer protection and market integrity; and (iii) to be more adaptive – to meet the challenges relating to FinTech and sustainability.
PRA letter to Treasury Committee on changes to change in control assessments
On 14 July, the HoC Treasury Committee published a letter (dated 2 July) sent by Sam Woods, PRA Chief Executive, that considers possible enhancements to the conditions for assessing a proposed change in control. Mr Woods explains that the conditions were amended in 2009 to implement the EU Acquisitions Directive, which aimed to prevent national regulators objecting to cross-border acquisitions for protectionist reasons. While the amended conditions do allow the regulators to intervene where they identify material concerns, Mr Woods believes a small modification would enable a more rigorous review of acquisitions. Before the Acquisitions Directive, the regulator could object to an acquisition unless it was satisfied that the relevant conditions were met. Now, the regulator may only object to a complete application if there are reasonable grounds for doing so based on the six criteria. This shifted the burden of proof. Mr Woods states that the PRA are raising with HMT the possibility of reverting the burden to the original approach, to allow the regulator to object unless it is satisfied it is appropriate for an acquisition to take place in the light of the relevant criteria. Doing so, Mr Woods believes would strengthen the hand of the regulator where the position is unclear and be conducive in practice to an even more robust approach to the review of acquisitions.
FSB identifies preliminary lessons for financial stability from the Covid-19 experience
On 13 July, the FSB published its interim report on the lessons learnt from the Covid-19 pandemic from a financial stability perspective. The report identifies preliminary lessons for financial stability and aspects of the functioning of the G20 financial reforms that may warrant attention at the international level. Conclusions drawn by the FSB include: (i) thus far, the financial system has weathered the pandemic thanks to greater resilience, supported by the G20 reforms, and the swift, determined and bold international policy response. Monitoring and coordination, guided by the FSB Covid-19 Principles, has discouraged actions that could distort the level playing field and lead to harmful market fragmentation; (ii) the March 2020 market turmoil has underscored the need to strengthen resilience in non-bank financial intermediation (NBFI). The FSB has developed a comprehensive work programme to enhance the resilience of the NBFI sector while preserving its benefits; (iii) the functioning of capital and liquidity buffers may warrant further consideration; (iv) some concerns about excessive financial system procyclicality remain; (v) the pandemic has highlighted the importance of effective operational risk management arrangements, the need to enhance further crisis management preparedness, and the importance of promoting financial resilience amidst rapid technological change more generally; (vi) one of the legacies of the pandemic may be a build-up of leverage and debt overhang in the non-financial sector; and (vii) the Covid-19 experience reinforces the importance of completing remaining elements of the G20 reform agenda. The FSB will engage with external stakeholders on preliminary findings and issues raised in this report. The final report, to be delivered to the G20 Summit in October, will set out tentative lessons and next steps to address the identified issues.
FPC response to Chancellor’s remit recommendations
On 13 July, the BoE published a letter from Andrew Bailey, BoE Governor and Chairman of the Financial Policy Committee (FPC), responding to a letter from Rishi Sunak, Chancellor of the Exchequer, on the remit and recommendations for the FPC for 2021/22. Amongst other things, the FPC: (i) judges that the UK banking system has the capacity to provide continuing support to households and businesses as the economy recovers from the Covid-19 pandemic and the Government’s support measures unwind over the coming months. This judgement is supported by the interim results of the 2021 solvency stress test; (ii) will continue to consider how the UK financial system might best be able to intermediate the supply of finance for productive investment. As highlighted in recent financial stability reports, investments that are longer-term, less liquid and more equity-like require particular attention in the UK at present and will likely be more important post-pandemic. The FPC continues to develop its work programme in three areas: (a) the barriers to investment into long-term less liquid assets; (b) incentives for insurers to invest in longer-term and illiquid instruments as part of the Solvency II Review; and (c) widening the ability for investment funds to invest in long-term assets by seeking ways to reduce the liquidity mismatch in open-ended funds, and ensuring the risk structures and regulation are in place for investors to access a variety of illiquid asset classes. The BoE, the FCA and HMT have convened an industry-led Working Group on Productive Finance, whose priority is to facilitate the creation of the Long-Term Asset Fund and, more generally, to identify practical solutions to the barriers to investment in longer-term and less liquid assets; and (iii) launched with the Prudential Regulation Committee a climate change-focused Biennial Exploratory Scenario exercise on 8 June in order to better assess climate risks and inform future work. The FPC continues to support the Government’s Green Finance Strategy as part of the Government’s economic policy and notes that in particular, its work to support investment in productive finance can support sustainable investment in areas such as renewable energy infrastructure and green technologies.
BoE report assessing the resilience of market-based finance
On 13 July, the BoE published a report, under the guidance of the Financial Policy Committee (FPC) assessing the resilience of market-based finance. Market-based finance refers to the system of markets (e.g. equity and debt markets), non-bank financial institutions (including investment funds, hedge funds, pension funds and insurers) and infrastructure (such as central counterparties and payments providers) which, alongside banks, provide financial services to support the wider economy. The report amongst other things: (i) explains the FPC’s framework for assessing vulnerabilities in market-based finance and its past work to build its resilience; and (ii) summaries key aspects of the ‘dash for cash’ in March 2020 and how this was catalysed by vulnerabilities in market-based finance. Findings from the report include that: (a) the UK economy benefits from other services provided by the sector, including intermediating between saving and investment, insuring against and transferring risk (e.g. through derivatives markets and insurance companies), and offering payment and settlement services; (b) authorities need to be able to effectively monitor market-based finance and the report sets out a number of the data gaps faced by domestic and global regulators; and (c) recent events, including the disruption to US repo markets in 2019 and the dysfunction in March 2020, suggest that the sector is increasingly prone to ‘jumps to illiquidity’. This can undermine market functioning and, by tightening credit conditions, impair the provision of credit to the real economy. The FPC will continue to scan for potential vulnerabilities originating outside of the core UK banking sector, and to monitor the growth of risks in those sectors.
BoE Financial Stability Report and FPC summary and record
On 13 July, the BoE published the Financial Stability Report (FSR) for July and the financial policy summary and record of the meeting of its Financial Policy Committee (FPC) on 30 June. The FPC sets out the outlook for financial stability and discusses issues relating to the resilience of the financial system in relation to: (i) support for the economy during the pandemic; (ii) debt vulnerabilities in the financial system; (iii) increased risk taking in global financial markets and elevated market asset valuations; (iv) the joint BoE, FCA review of open-ended investment funds; (v) the FSB’s review on market vulnerabilities associated with the March 2020 ‘dash for cash’; (vi) the transition from LIBOR; (vii) the need for additional policy measures relating to cloud service providers; and (viii) the review of the UK leverage ratio framework. The FPC's next policy meeting will be on 23 September and the record of that meeting will be published on 8 October.
G20 Communiqué from Third Finance Ministers and Central Bank Governors Meeting
On 12 July, the G20 published a communiqué following a meeting of finance ministers and central bank governors on 10 July. The G20, among other things: (i) looks forward to discussing, at its meeting in October, the Sustainable Finance Working Group Synthesis Report and a multi-year G20 Roadmap on sustainable finance, initially focused on climate. The G20 welcome the FSB report on the availability of data on climate- related financial stability risks and will work to address data gaps and highlight the importance of financial authorities considering scenario analysis, including drawing on common scenarios as appropriate; (ii) will work to promote implementation of disclosure requirements or guidance, building on the FSB's Task Force on Climate-related Financial Disclosures (TCFD) framework, in line with domestic regulatory frameworks, to pave the way for future global coordination efforts, taking into account jurisdictions' circumstances, aimed at developing a baseline global reporting standard; (iii) are committed to strengthening the non-bank financial intermediation (NBFI) sector resilience with a systemic perspective, including its interconnectedness with the banking sector and the real economy; (iv) reiterate its commitment to a timely and effective implementation of the G20 Roadmap to enhance cross-border payments by relevant authorities. The G20 look forward to the FSB report setting quantitative global targets for addressing the challenges of cost, speed, transparency and access, to be delivered in October. The G20 reiterate that no so-called "global stablecoins" should commence operation until all relevant legal, regulatory and oversight requirements are adequately addressed through appropriate design and by adhering to applicable standard; and (v) reiterate its support for FATF and the nine FATF-style Regional Bodies (FSRBs), calling on other FATF members, the IMF and the World Bank to increase their financial and/or technical support for FSRBs. The G20 reaffirm its commitment to fully implement and strengthening AML/CFT global standards on beneficial ownership transparency and virtual assets regulation and supervision within its respective jurisdictions.