Preparing for SFTR part 2: How financial services must respond

And the reporting obligation goes to…?

In one word: everybody! The list includes banks, brokers, funds, insurance companies, asset managers, pension funds, and other financial as well as non-financial companies.

The Regulation will cover SFTs carried out by any company established in the EU, irrespective of the location of its respective branch offices. Over and above, it also includes SFTs conducted by EU branches of non-EU firms, and any SFT where the securities used are delivered by an EU counterparty or by an EU branch of a third-country firm under collateral agreement, which also allows the collateral to be provided by an entity other than the borrower. The proposal also explicitly identifies UCITS funds and AIFM funds as being subject to the regulation in its final form (remember shadow banking?).

There are some exceptions (if one could call them that), and a handful of institutions are exempt from the reporting obligations. Surprisingly or not, the SFTR does not apply to the ECB, the European System of Central Banks, the Bank for International Settlements, and bodies managing public debt, in order not to affect their discretionary policies.

Reporting Requirements

Article 4 requires counterparties to an SFT to report details of any SFT they have concluded, modified, or terminated to a trade repository no later than the working day following the conclusion, modification or termination of the transaction or, if no trade repository is available, to the European Securities and Markets Authority (ESMA).

The basic features of SFT trade reporting are similar to those of EMIR trade reporting in respect of over-the-counter derivatives, which went live in February 2014. Although certain aspects of the requirements do differ in form and content compared to EMIR. In that regard, there might be a need to adjust the systems to ensure the required data is properly captured and reported.

Details that need to be reported will include the parties to the SFT, the principal amount and currency, and the assets used as collateral. Furthermore, where a non-financial counterparty does not exceed at least two of the following three thresholds on its balance sheet, the financial counterparty will have an obligation to report on behalf of both itself and that non-financial counterparty: (i) balance sheet total of EUR 20 million; (ii) net turnover of EUR 40 million; and (iii) an average of 250 employees during the financial year. In essence the regulator wants to prevent any value depreciation of the asset during the lifetime of any transaction, so in reality any change needs to be reported.

Is there a ‘next level use’ for the data reported?

Yes, there is!

Trade repositories should regularly, and in an accessible way, publish aggregate positions by type of SFTs reported. Beside this publication mandate, supervisors and regulators (incl. relevant national authorities) responsible for financial stability and securities markets would have access to the data collected.

Implementation deadlines

The Regulatory Technical Standards (RTS) and Implementing Technical Standards (ITS) will provide further details regarding the information that counterparties must report. ESMA published a consultation on 30 September 2016 that includes its draft RTS and ITS. The consultation was open for responses until 30 November 2016 and ESMA is obliged to submit to EC the draft RTS and draft ITS in Q1 2017, and to have it approved by end of 2017. This practically means that the reporting will not start before the end of 2018 or -more likely- some time during 2019.

What makes a Regulation effective one?

Simply put: Penalties and sanctions.

For non-compliance with the Reporting Requirements and Reuse Requirements, the competent authorities of the Member States will have the power to apply various administrative sanctions and other measures. Ranging from a ‘cease and desist order’ to an administrative penalty of up to the larger amount of EUR 5 million or equivalent (in case of non-compliance with the Reporting Requirements) or EUR 15 million or equivalent (in case of non-compliance with the Reuse Requirements) and 10% of the total annual turnover of the legal entity.

For non-compliance with the Disclosure Requirements, the competent authorities of the Member States will have the power to apply various administrative sanctions and other measures under the UCITS Directive and Alternative Investment Fund Managers Directive.

The SFTR preparation checklist

  • Identify the SFT and STF-like transactions performed by the entity
  • Prepare for potential operational challenges data collection, processing, reporting and storing
  • Review the applied internal accounting practices in order to properly identify SFTs
  • Look for a reporting solution

Preparing for SFTR pt.1: What are the regulation’s aims?

The financial crisis highlighted the need to improve regulation and monitoring outside the controlled world of banking. The volume of transactions carried out by banks had increased enormously and the risks created could be systemic.

‚Regulation (EU) 2015/2365‘ of the European Parliament and of the Council on transparency of ‘Securities Financing Transactions and of reuse and amending Regulation 648/2012’ (SFTR) responds to the necessity to improve the transparency of securities financing markets as part of the financial system.

It creates a unified framework under which details of Securities Financing Transactions (SFTs) can be efficiently reported to Trade Repositories (TRs) and information on SFTs as well as total return swaps are disclosed to investors in collective investment undertakings. The definition of SFT in SFTR does not include derivative contracts as defined in Regulation (EU) No 648/2012 of the European Parliament and of the Council (EMIR). However, it does include transactions that are commonly referred to as liquidity swaps and collateral swaps, which do not fall under the definition of derivative contracts in EMIR.

What is the new play?

The SFTR aims to increase markets´ transparency by introducing the following measures and requirements:

  • The transactions in scope of the regulation must be reported to a trade repository to allow increased monitoring of the risks associated with SFTs
  • Use of SFTs and total return swaps (as well, as related practices) must be disclosed by ‘Undertakings for Collective Investment in Transferable Securities’ (UCITS) management companies, UCITS investment companies and Alternative Investment Funds Managers (AIFM)
  • Re-use of financial instruments received under collateral arrangement must meet minimum conditions, such as requirements to disclose associated risks and gain express consent of the counterparty (the ‘Reuse Requirements’)

Which transactions are considered SFTs?

Securities financing transactions (SFTs), generally speaking, are transactions used to borrow cash against some kind of security, or vice versa. This broad definition includes a variety of collateralised transactions that have similar economic effects such as:

  • Lending or borrowing cash, securities or commodities,
  • Repurchase (repo) transactions
  • Reverse repurchase transactions
  • Buy-sell back or sell-buy back transactions

According to the definition in the Official Journal of the European Union, ‘securities financing transaction’ means:

  • A repurchase transaction
  • Securities or commodities lending and securities or commodities borrowing
  • Buy-sell back transaction or sell-buy back transaction
  • A margin lending transaction

The most frequently used SFTs are securities lending and repos, in which the ownership of the given securities temporarily changes in return for cash for a certain, pre-agreed period of time, or open end, and under some economic conditions (price, fee, or haircut). At the end (maturity) of the SFT, the change of ownership reverts and the assets are with the counterparties that originally possessed them.

Securities lending is primarily driven by market demand for specific securities, and in this type of transaction, the lending counterparty lends securities for a fee against a guarantee in the form of other financial instruments or cash provided by their clients or counterparties.

Repos/reverse repos are based on the counterparty’s need to borrow or lend cash in a secure way. This practice consists of selling/buying financial instruments against cash, while agreeing in advance to buy/sell back the financial instruments at a predetermined price on a specific future date.

SFT Reporting also requires disclosure of specific information concerning ‘total return swaps’. A total return swap is defined as a derivative in which one counterparty transfers the total economic performance, including income from interest and fees, gains and losses from price movements, and credit losses, of a reference obligation to another.

The need for regulation development is also based on the probability that transactions and activities currently made by the banks might be shifted to the ‘shadow banking’ sector and encompass financial and non-financial entities. The shadow banking sector needs to be better monitored because of its size, its close links to the more regulated financial sector, and the systemic risks that it may bring.

There is also a particular need to prevent the shadow banking system being used for regulatory arbitrage, whereby firms use loopholes to try and circumvent regulation. To achieve this, it is important that any structural separation measure is accompanied by measures improving transparency, hence also the establishment of reporting obligations to trade repositories. It would allow supervisors to access detailed, reliable and comprehensive data to monitor risks and to intervene when necessary.

What kind of banking is hidden in the shadows?

‘Shadow banking’ is a term, which is a collective noun for a system of objects and activities (e.g. taking deposits and providing loans) outside the common banking system, and are not regulated like traditional banks. They are in the scope of the SFTs regulation, because the shadow banking also includes securitisation, securities lending, repurchase deals, and other risk-taking transactions.

Trading Venue Operators and Systematic Internalisers: It is time for Reference Data Reporting

What is MiFIR Reference Data reporting?

According to the requirements of Article 27 of MiFIR, Trading Venues and Systematic Internalisers have to provide their supervising authorities with identifying reference data for the traded instruments in a standardised format. Reference data reporting is expected to start, along with the other MiFID/MiFIR and MAD/MAR reporting obligations,  on 3rd of January 2018.

What does it mean and who is affected?

It means that operators of regulated markets, as well as MTFs, OTFs and Systematic Internalisers, will be the ones required to report. They have to send information about the instruments traded -or allowed for trading- to the respective competent regulator prior to any transaction with the given financial instrument. Also, the data has to be updated if there are any changes to the initially reported details. The National Competent Authorities (NCAs) will subsequently transfer the collected data to ESMA ensuring sustainable, harmonised and up-to-date databases.

How it will work?

As per MiFIR and MAR requirements, the reporting flow can be summarised as follows:

  • Trading Venues and Systematic Internalisers will provide reference data to their NCAs, or to ESMA directly;
  • Non-delegating NCAs provide that information directly to ESMA;
  • ESMA publishes the information on its website for public consumption and provides it to NCAs as downloadable files.

The pictures below represent the reporting process in two cases – via the NCAs or directly to ESMA.

The NCAs are allowed to delegate to ESMA (based on a Delegation Agreement) and collect data directly from Trading Venues and Systematic Internalisers on their behalf. In such cases, the dataflow will look like this:

Given the significant amount of data to be collected and in an attempt to make the process as smooth as possible, and based on the principles set in RTS 23 (and the Annexes), on 26th of October 2016 ESMA issued detailed reporting instructions for uploading of data to the Financial Instruments Reference Data System (“FIRDS”) which System is developed and operated by ESMA to serve both, MiFIR and MAR purposes.  The document ESMA/2016/1522 specifies the exchange of Reference Data Information between NCAS, Trading Venues, Systematic Internalisers and the FIRDS. The instructions also define the ‘need-to-knows’ for Trading Venues, Systematic Internalisers and Competent Authorities to report instruments’ reference data.

What data must be reported?

An estimated 15 million different financial instruments are traded across EU. For the regulators it is crucial to create a common and transparent database using the principles of standardisation, harmonisation and consistency.  With that in mind, it is not surprising that the European Commission considers the ISIN as the most appropriate single identifier for the purposes of market surveillance in the context of MiFID II.

There is set of 48 reference data fields listed in the Table 3 of the Annex to RTS 23, which can be divided in several main groups:

  1. General fields (ISIN, name, classification, etc.)
  2. Issuer or operator´s identifier (LEI)
  3. Venue related fields (MIC, instrument´s short name as per ISO 18774, etc.)
  4. Notional related fields
  5. Instrument related fields (particular points are separated by asset class and type)

All details should be provided by the trading venues and Systematic Internalisers as per the format standards specified in the Annex. The report has to be in electronic, machine-readable form and in a common XML template compliant with ISO 20022.
Files must be sent to the competent authority by 21:00 CET on each day when the trading venue or Systematic Internaliser is open for trading with the reference data for all financial instruments that are admitted to trading or that are traded, including where orders or quotes are placed through their system, before 18:00 CET on that day. If trade, order or trade admittance emerges after 18:00 CET, the respective reference data of the financial instrument concerned shall be provided by 21:00 CET on the next working day.

Conclusion

As many other reporting tasks, the Reference Data Report depends on two main substances:

  • Entry data
  • Reliable system for data processing

The Reference Data Report is standardised to the maximum possible degree and this is definitely not a surprise, given the information recipients – ESMA and NCAs. This tiny but essential detail makes the selection of appropriate service provider very important. The connecting vendor must be capable to extract data from numerous different sources, to convert it in the required format, to create, fill and verify templates, to submit the unified reports on time and also to receive and process related information from the NCAs or ESMA to the Trading Venues and Systematic Internalises.

Or, in few words – the vendor has to ensure proper operation of the entire data flow in a “There and back again” mode.

’Be’ signs an international Partnership Agreement with ’Murex’

Be group has become an official partner of Murex, a leader in Capital Markets solutions (https://www.murex.com/partners). Through this agreement, Be becomes one of European partners of Murex and aims to boost its market share in the professional services area at a domestic and international level.

With more than 45,000 users spread over 65 countries around the globe, Murex is one of the most widely used software solutions in the Capital Markets thanks to its sophisticated front-to-back-to-risk platform MX.3, which offers enterprise cross-asset trading, risk management and processing solutions.

Since Be’s foundation in 2008, its consulting team has completed multiple Murex projects. Be already provides a number of clients in Europe with managed services onshore/nearshore for the whole range of Murex solutions including implementation, upgrade, first level support and maintenance.

We are proud of Murex recognition, few companies in Europe have this acknowledgment”, says Stefano Achermann, C.E.O. of Be Group “Our Murex credentials demonstrate our expertise, our company’s edge when it comes to Murex projects and in general the strength of our offering in capital markets solutions implementation. In a period where optimized TCO and innovative approaches become crucial for the Financial Industry, Be’s expertise around Murex – based on an international and talented team of finance and technology professionals – is going to enable some of the major European Financial Institutions with a well-engineered best-in-class financial solution”.

About Be

The Be Group is listed in the STAR segment of Borsa Italiana and is one of the leading players in the Consulting Business for the Financial Services Industry. The company provides Business Consulting, Information Technology and Process & Document Management services. A combination of specialist skills, advanced proprietary technologies and a wealth of experience enable the Group to work with leading financial and insurance institutions to create value and boost business growth. With more than 1,000 employees and branches in Italy, United Kingdom, Germany, Austria, Switzerland, Spain, Romania, Poland and Ukraine, in 2016 the Group recorded revenues in the amount of Euro 136.7 million.

This press release is available on the Company’s website www.be-tse.it

“Be” at London STAR Conference Key messages

“Be” joined yesterday the XVII London STAR Conference organized by Borsa Italiana. Herein after the key messages presented by the Group Chairman Carlo Achermann to the financial community:
 
1. Road to 2019, Enlarge client base to boost revenue portfolio
 
• Diversification of client base and reinforcement of leadership in consulting for the Financial industry;
• Focus on the main European Financial Institutions (+ 20% revenue increase on the 2nd customer, +70% on other customer’s portfolio in Italy as at 30.09, in consulting segment);
• Increase of volumes from the near-shore site in Poland (assigned a C.M. ICT infrastructure three-year contract for €/mln 11, launched the Salesforce Competence Centre in Warsaw);
• Signed new international partnerships with key solution providers (e.g. Murex, July 2017);
• Confirmed significant contracts with Central Institutes related to important business areas (e.g. BundesBank, SWIFT Payment Infrastructure Support, July 2017);
• Strengthened the leadership in some of the key topics in the Financial Services Industry: Payment Service Directive II and MIFID II (supporting the major market operators and industry associations).
 
2. Accelerating M&A Process in Europe
 
• DACH region. All the acquired companies continue to grow (Be TSE DE, FIMAS, Be TSE Austria, R&L, Be TSE Swiss). In the medium terms: organic growth leveraging on new skills/competences and M&A with high-specialization targets (10-15 €/mln);
• Spain. Paystrat opened a dynamic market, full of business opportunities. Interest to evaluate synergies with medium-size companies (20-35 €/mln), close to Be in terms of culture and business context;
• United Kingdom. Ambition to be part of significant projects in the Brexit context. The organic growth can be supported through on-boarding new well-known industry talents; M&A initiatives are under evaluation related to medium-size targets (10-30 €/mln);
• Italy. Growth by opportunity, with particular attention to high-size dossiers when synergic with the current business perimeter or relevant to companies with important assets in the digital context.

Clockwork reporting. A new era in investment services starts on 3rd of January 2018

In the ‘post-crisis’ environment of  the last couple of years (almost a decade to be more accurate), investment firms are constantly trying to catch-up with the regulators’ growing appetite to increase market transparency and customer protection by collecting transaction data, tighten reporting regulations with ever increasing amounts of data.

There is a solid, undisputable title for this trend – REPORTING – the very foundation of all regulators’ and supervisors’ monitoring, decisions and practices.

“Nothing new under the sun”, you might say. “This is exactly what regulators do. They are technocrats that demand reports.“ Think again.

Despite the fact that reporting in various forms has been always around, some of the new regulations require data in a way which brings new meaning to the term “regulatory reporting” and takes it into a different realm. Reports will have to be:

  • Granular and detailed
  • Standardised
  • With highest possible level of straight through processing (STP)
  • Timely (near real-time in some cases)

The combined requirements are currently one of the biggest challenges in the industry, so much so that they are entirely shaping and transforming financial institutions and companies around the world.

The new framework being created has many impacts, from business (What to offer?), via process and IT (How to manage the product?) to customers (Why and to whom to offer it?). On top of which everything has to be reported, stored and easily trailed, such that proper reporting creates transparency and confidence.

 

Bored already? Or do you believe this doesn’t concern you? Then here is a brief test. Do any of the mind-boggling acronyms listed below look familiar to you?

ESMA, OFAC, MiFID, EMIR, MiFID II/MiFIR, MAD/MAR, Dodd-Frank, CRD IV, IFRS, SFTR, FATCA, RTS/ITS

If your answer is “No”, well lucky you, or where have you been burying your head in the sand?

If, on the other hand, your answer is a wholehearted “Yes”, then welcome to this brave new world, take comfort in the fact that you are not alone.

From one perspective, the reporting requirements could be considered as a “language”. It eases communication between various parties, e.g. companies, regulators, customers, counterparties, and alike. And, like every other language, it requires several components in order to be fully understood:

  • Grammar (the rules list above)
  • Teachers (the competent authorities)
  • Students (financial institutions, companies and customers)
  • Communication tools and media (systems, reports and information)

 

Clearly, there has never been such detailed and far-reaching regulation covering investment and capital market products and activities as with MiFID II, which will come into force starting January 2018.

Over and above MiFID and EMIR, there is the ‘transparency of securities financing transactions and of reuse and amending Regulation (EU) 648/2012’ (SFTR), which comes in response to the need for improved transparency of the securities financing markets and is expected to come into force in 2018, too.

The fact that there was a ‘last minute’ postponement (shifting the deadline from 2017 to 2018) by ESMA and the EC speaks for itself – a massive change in regulatory reporting is on its way and will affect investment products and instruments at an unprecedented scale.

Currently, only ‘spot FX’ is out of the reporting scope, while all other (especially the complex ones) financial instruments and products will have to be reported in one way or another.  There are more than 600 data elements which have to be reported under the different regulations, in some cases in near real-time.

The clocks of all stakeholders involved will have to be synchronised to ensure that the word ‘real-time’ has the same implications for all segments in the chain. In order to satisfy the substantial amount of details required, the ‘reporting subjects’ have to produce ‘ex-ante’ and ‘ex-post’ reports, as well as inducement registers, investment advice protocols, product governance documents, meeting minutes, phone conversations records, etc.

The party doesn’t stop there – information has to be properly stored for several years.  

So, it will come as no surprise that the entire investment industry – firms, regulators, trading venues and trading repositories are talking about, and preparing for, the new reporting rules. They all have to invest in IT systems, data collection and warehousing, process redesign, product management, staff training and education.

The upcoming reporting requirements will demand that financial instrument producers, distributors, market venues and other establishments profoundly review their procedures, systems and models, ensuring they can respond adequately to the pre-, during- and post-trading business requirements.

If you aren’t ready yet –  get cracking and adjust before January 2018. 

The missing bits in the MiFID II – costs/charges transparency definitions; your questions answered

Although the framework regarding the ex-ante and ex-post cost transparency seems to be well defined by ESMA in MiFID II, a number of questions remain unanswered and leave the directive open for misinterpretation, confusion and potential conflicts between customers and their financial institutions or brokers.

In this article we try to provide the ingredients to help you understand the transparency obligation and its impact on both consumers and your business.

Do ex-ante reports have the same scope as ex-post reports?

The main driver behind the regulation is to provide the consumer with a comprehensive overview of the costs to expect before buying a product or service. The ex-post component poses challenges, because it may show discrepancies between the forecasted and actual costs, disclosing much about the inner workings of the institutions, whilst potentially inviting debate and conflict over  “who will pay what”.

 

The ex-ante transparency applies to:

  • ‘regulated market’ (RM) or
  • ‘multilateral trading facility’ (MTF) or
  • ‘organised trading facilities’ (OTF) or
  • ‘systematic internaliser´ (SI)
  • ‘over the counter’ (OTC)

Which costs are covered by these reports?

The directive is not entirely clear on which costs the reports should cover. Quite a few questions remain unanswered… again. What about variable costs over time (ex-ante)? What is the impact of ‘return on costs’? Does the broker have to make public what their margin is?

Four main costs/charges categories have to be disclosed (on ex-ante as well as ex-post reports).

  1. One-off charges

These costs and charges are paid to the investment firm at the beginning (entry) or at the end (exit) of the provided investment service(s) (Deposit fees, Termination fees).

 

  1. On-going charges

These on-going costs and charges are paid to investment firms for their services provided to the client. (Management fees, Advisory fees, Custodian fees).

These costs/charges are recurring.

For ex-ante reports they can only be provided with assumption and reserve with a standard duration of conservation.

 

  1. All costs related to transactions

These costs and charges are related to transactions performed by the investment firm or other parties (Broker commissions, entry- and exit charges paid to the fund manager, platform fees, mark ups (embedded in the transaction price), stamp duty, transactions tax and foreign exchange costs).

 

  1. Incidental costs

These costs are mainly performance fees.

Return on costs have to be provided for both reports on standard duration.

Although cost/charge are minutely detailed, the broker’s margin will not appear, only broker commissions will be disclosed.

Is the [ex-post disclosure cost/charge report] tomorrow’s [ex-ante disclosure cost/charge report]?

Surely not, because ex-ante disclosure cost/charge report contains:

  • elements which are predictable,
  • elements not predictable which have to be estimated (for example Exit and Re-sale costs),

where ex-post disclosure cost/charge report contains only elements which are real and are going to be charged.  

How can one compare ex-ante with ex-post and what happens if the ex-ante and ex-post costs/charge reports are radically different? What happens to the bank if they get it wrong all the time?

As mentioned earlier, these two reports are different and contain different costs/charges.

Discrepancies can be substantial but have to be explainable. To prepare the customer for potential  discrepancies:

  • the method to estimate costs/charges has to be improved permanently and consistently by using incurred elements regarding costs/charges and billing data,
  • estimated costs/charges have to be highlighted in the ex-ante report.

Even if no penalties are planned from ESMA to sanction existing differences between ex-ante and ex-post report, it is important to provide liable elements because the credibility of the finance institution is in play.

Will it become a marketing tool (low cost vs. high service) and will this be used to compete?

The obligation to provide an ex-ante disclosure cost/charge report in a timely fashion will probably increase competition between institutions as long as customers have the option to obtain a number of ex-ante reports and are able to compare the reports before placing the order.

That being said, a detailed report alone will probably not provide a competitive advantage; customers have a tendency to look at the bottom line only and just compare total cost, which will most certainly steer their decision.

What are the implementation issues in software providing ex-ante cost overviews?

Implementation of the new reports requires software and tools which

  • are able to connect to different trade repositories,
  • are able to read and use different data structures,
  • are efficient,
  • are easy configurable and adaptable

 

and where an implementation can be done quickly. Time is running out and the implementation dead-line has been set for 3rd January 2018!