EU Regulatory Update
EU Economic and Monetary Union
On 31 May, the European Commission published a reflection paper on “possible ways forward for the deepening of Europe’s Economic and Monetary Union” (“EMU”). The paper examines several areas for improvement across the EU, including, among others: (i) “the need to tackle persisting economic and social divergences,” such as “low investment levels . . . and weak productivity trends,” which risk fragmenting economic performance of different state members; (ii) “the need to tackle remaining sources of financial vulnerability,” such as “high levels of public and private debt” and the large number of non-performing loans in the banking sector; (iii) “the need to tackle high debt and to increase collective stabilisation abilities”; and (iv) “the need to increase the efficiency and transparency of EMU Governance.” To address these concerns, the European Commission recommends further work in three key areas of the EMU: (i) “completing a genuine Financial Union” by, among other things, fully implementing the Banking Union and Capital Market Union; (ii) “achieving a more integrated Economic and Fiscal Union” which, among other things, entails “reinforcing links between national reforms and existing EU funding”; and (iii) “anchoring democratic accountability and strengthening euro area institutions” by, among other things, unifying external representation in the IMF by 2025.
On 20 June, the Financial Stability Board (“FSB”) published for consultation draft “Supplementary Guidance to the FSB Principles and Standards on Sound Compensation Practices” regarding the effectiveness of compensation tools related to addressing misconduct at financial institutions. The guidance provides several recommendations supplementing the FSB’s Principles and Standards on Sound Compensation Practices related to: (i) degrees of responsibility across business roles (from management to the front line) for conduct issues; (ii) the “integration of non-financial considerations”; (iii) “the alignment of compensation incentives to the longer time frame misconduct risk may take to materialize”; (iv) “the use of transparent, consistent and fair compensation policies”; and (v) supervisory responsibilities regarding monitoring and assessing firm compensation policies and misconduct risk management procedures. The FSB has requested comments regarding: (i) what the appropriate scope of the guidance should be regarding particular firm roles; (ii) whether additional guidance should be provided with respect to “qualitative, non-financial assessments” and their impact on compensation; (iii) whether firms should be required to use particular compensation tools to address misconduct risk; (iv) “additional circumstances in which adjustments to compensation should be expected” beyond those suggested by the guidance; (v) the appropriate scope of compensation tools; and (vi) how the scope of the guidance could be widened. The consultation period closes on 30 August 2017.
On 23 May, the FSB’s Working Group on Governance Frameworks published a report surveying efforts by national and international authorities, market participants, and industry associations to address misconduct risk. The report analyzed several themes regarding governance and misconduct risk, including: (i) the effectiveness of governance frameworks at mitigating this risk, including “incentivis[ing] good conduct and deter[ring] misconduct”; (ii) “the extent to which [governance] reform could lead to mitigation of misconduct risk”; and (iii) how international work aimed at addressing misconduct risk through governance reform could be conducted, “who would undertake the work,” and “what would be the desired outcomes of that effort.” The report highlights three criteria that would direct the next phase of the Working Group’s analysis: (i) “the topic should be important for addressing misconduct risk from a financial stability perspective”; (ii) “an international effort should be well positioned to do the work”; and (iii) “the work should not overlap with that of other international bodies”. By March 2018, the FSB intends to determine whether to recommend any further steps, such as guidance, and to publish a final report.
On 13 June, the International Organization of Securities Commissions (“IOSCO”) published a report outlining the tools and approaches IOSCO members use “to discourage, identify, and sanction misconduct by individuals in financial markets.” The report includes: (i) a discussion of the “characteristics of wholesale markets that may give rise to potential misconduct risk,” such as their decentralized market structure or opacity to market participants in other markets; (ii) “IOSCO work relevant to conduct in wholesale markets,” such as IOSCO’s Multilateral Memorandum of Understanding Concerning Consultation and Cooperation and the Exchange of Information; (iii) a description of the tools national supervisors use to address individual misconduct risk in wholesale markets, such as “tracking ‘bad apples’” or “protecting and rewarding whistleblowers”; and (iv) the approaches regulators have taken to address misconduct risk in wholesale markets, such as licensing, registration, supervision, and enforcement.
European Systemic Risk Board Shadow Banking Report
On 29 May, the European Systemic Risk Board (“ESRB”) published its second annual EU Shadow Banking Report which, as the press release reports, presents “an overview of developments in the European shadow banking system to identify risks to financial stability.” Among other things, the report finds that “growth in broad EU shadow banking assets slowed markedly in 2016,” and between 2012 and 2016, “the broad measure of shadow banking in the euro area has expanded by almost 40%.” The report also identifies several areas of risks and vulnerabilities within the EU shadow banking system, including: (i) “liquidity [and redemption] risk and risks associated with leverage among some types of investment funds,” such as those “which invest in less liquid markets while offering daily redeemable shares”; (ii) “interconnectedness and contagion risk across sectors and within the shadow banking system, including domestic and cross-border linkages”; (iii) “procyclicality, leverage, and liquidity risk created through the use of derivatives and securities financing transactions”; and (iv) “vulnerabilities in some parts of the other financial institutions sector, where significant data gaps prevent a definitive risk assessment.”
AIFMD & UCITS Q&As
On 24 May, ESMA published updated Q&As on the application of the Alternative Investment Fund Managers Directive (2011/61/EU) (“AIFMD”) and Undertakings for the Collective Investment in Transferable Securities Directive (2014/91/EU) (“UCITS V”).
o The updated AIFMD Q&As cover: (i) how AIFMs should report the “breakdown between retail and professional investors” to national competent authorities; (ii) information AIFMs must provide on AIFs they intend to manage that are domiciled in another member state through an “AIF management passport“; and (iii) whether AIFs subject to the clearing obligations under EMIR may use the “exemption for intragroup transactions” under EMIR.
o The updated UCITS Q&As cover whether a UCITS subject to the clearing obligations under EMIR may use the “exemption for intragroup transactions” under EMIR.
IAIS Consultation on Insurance Core Principle 13
On 1 June, the International Association of Insurance Supervisors (“IAIS”) launched a consultation on revisions to Insurance Core Principle (“ICP”) 13: Reinsurance and Other Forms of Risk Transfer. ICP 13 establishes a framework for insurance supervisors to ensure they have adequate oversight of an insurer’s ability to effectively manage risk created as a result of reinsurance agreements and other forms of risk transfer between institutions. The consultation period closes on 31 July 2017.
Solvency II – Calculation of Regulatory Capital Requirements
On 8 June, the European Commission adopted a Delegated Regulation (C(2017) 3673) regarding the calculation of regulatory capital requirements for certain categories of assets held by insurance and reinsurance undertakings and amending the Solvency II Delegated Regulation (EU/2015/35). In order to “further facilitate investments in infrastructure assets by institutional investors” such as re/insurance companies, the Delegated Regulation reduces certain capital holding requirements for re/insurance companies investing in infrastructure undertakings. The Commission also published an impact assessment and executive summary of the impact assessment of the Delegated Regulation.
Solvency II – Q&As
On 8 June, European Insurance and Occupational Pensions Authority (“EIOPA”) published two new sets of Q&As for Solvency II (2009/138/EC).
o Q&As on Commission Implementing Regulation (EU/2015/2450) regarding “templates for the submission of information to supervisory authorities.”
o Q&As on Commission Implementing Regulation (EU/2015/2011) regarding “the lists of regional governments and local authorities.”
On 15 June, EIOPA published two new set of Q&As for Solvency II.
o Further Q&As on Commission Implementing Regulation (EU/2015/2450) regarding “templates for the submission of information to supervisory authorities.”
o Q&As on Commission Delegated Regulation (2015/35/EU) supplementing Solvency II.
EIOPA June 2017 Financial Stability Report
On 20 June, EIOPA published its June 2017 Financial Stability Report of the insurance, reinsurance, and occupational pension fund sectors in the EU and European Economic Area. Among other things, the report indicated that: (i) the “low interest rate environment [remains] as the main concern among national supervisors”; (ii) the “European macroeconomic environment remains fragile, although with signs of a moderate recovery”; (iii) political and market uncertainties, such as “several EU elections and further negotiations following [Brexit]” persist; (iv) the EU insurance industry “faces challenges from emerging risks,” such as “cyber attacks and terrorist attacks”; (v) the reinsurance sector remains “largely unchanged,” as “[r]einsurance demand is still subdued, whereas the reinsurance capacity continues to increase”; and (v) the total assets for the pension fund sector “increased for the euro area based on preliminary data for 2016” while “[t]he investment allocation remained broadly unchanged and the average rate of return increased across the sample.” The report also includes a thematic article on the “[r]e-evaluation of the capital charge in insurance after a large shock.”
Ultimate Forward Rate
On 23 May, EIOPA published its final report on the methodology for deriving the ultimate forward rate (“UFR”) under Solvency II. EIOPA also published a calculation of the UFR for 2018 and will apply the “methodology for the calculation of the risk-free interest rate as of 1 January 2018.”
Capital Markets Union Mid-Term Review
On 8 June, the European Commission published a Communication (COM(2017) 292) regarding the mid-term review of the Capital Markets Union (“CMU”) Action Plan. The Commission indicated that it has: (i) implemented 20 out of 33 measures set out in the 30 September 2015 Action Plan; (ii) prioritized the implementation of three legislative measures related to the creation of the CMU; and (iii) identified seven new actions to be implemented.
o Implementation of Existing Measures: Among other measures, the Commission noted that it has made good progress in the implementation of (i) the European Venture Capital Funds (EuVECA) Regulation; (ii) the European Social Entrepreneurship Funds (EuSEF) Regulation; (iii) and the 30 May agreement in principle on Simple, Transparent and Standardised (STS) securitisation standards for banks.
o Prioritization of Legislative Measures: The three legislative measures the Commission is prioritizing include: (i) “a legislative proposal on a Pan-European Personal Pension Product” by the end of June 2017; (ii) “a legislative proposal specifying conflict of laws rules for third party effects of transactions in securities and claims in Q4 2017”; and (iii) “a legislative proposal for an EU-framework for covered bonds in Q1 2018.”
o Additional Measures to be Implemented: The seven new measures the Commission has identified include: (i) a “report on best practice in supply chain finance”; (ii) an “assessment of the impact of MiFID II level 2 rules on listed SME equity research”; (iii) the development of “best practices on the use by Member States of EU funds to partially finance costs borne by SMEs when seeking admission of their shares on the future SME Growth Markets”; (iv) an “assessment of the drivers of equity investments by insurance companies and pension funds”; (v) a “report on whether the accounting treatment of equity instruments in IFRS 9 is sufficiently conducive to long term financing”; (vi) retail investor engagement best practices “based on Member States experience with Investment Savings Account and an existing study on employee share ownership scheme”; (vii) facilitating the “cross-border exercise of shareholder rights including voting in the implementation of the Shareholders Rights 2 Directive published on 20 May 2017.”
ESMA Chair Stephen Maijoor Speech
On 7 June, European Securities and Markets Authority (“ESMA”) Chair Stephen Maijoor delivered a speech on (i) the preparation of MiFID II/MiFIR, (ii) Brexit, and (iii) the review of the ESAs.
o MiFID II/MIFIR: Chair Maijoor indicated that there will be “no further delay” to the 3 January 2018 applicability date of MiFID II/MIFIR. Additionally, he stated that ESMA: (i) is working on “pre-trade transparency waivers for equity instruments” and will soon begin work on “opinions on position limits and waivers for non-equity instruments”; (ii) has made progress in implementing its IT projects, including “the Financial Instruments Reference Data System…and the double volume cap mechanism”; (iii) intends to publish at the beginning of July the transitional calculations for non-equity instruments specifying the Large in Scale-threshold and Size Specific to Instrument-threshold for all instruments, and “the liquidity status of all instruments except bonds”; and (iv) intends to soon publish a consultation paper regarding the trading obligation for derivatives.
o Brexit: Chair Maijoor indicated that ESMA will establish a forum, “the Supervisory Coordination Network,” to assist National Competent Authorities (“NCAs”) in discussing “cases of relocating UK market participants” and “help to promote consistent decisions by NCAs.”
o Review of the ESAs: Chair Maijoor highlighted four key proposals for reform to the ESMA: (i) designating ESMA as the “central point” for third-country related matters, including conducting “equivalence assessments and ongoing monitoring of regulatory and supervisory developments in third countr[ies]”; (ii) “developing a European approach that could benefit the supervision of pan-European market participants”; (iii) enhancing supervisory convergence, particularly with regards to future challenges such as “access to information on national supervisory practices” and “the use of the so-called Breach of Union Law procedure”; and (iv) granting ESMA further authority “to determine the details of EU reporting.”
ESMA 2016 Annual Report
On 14 June, ESMA published its 2016 Annual Report. The report outlined ESMA’s activities and achievements in 2016, as well as certain objectives for the rest of 2017. Among other things, ESMA indicated that it: (i) will continue to focus on supervisory convergence and harmonization of EU rules; (ii) is currently preparing to conduct its second round of CCP stress tests and a round of stress tests for the asset management sector, “taking into account the sector-specific characteristics”; (iii) has prioritized preparing new rules for packaged retail and insurance-based investment products (“PRIIPs”) legislation as it enters into force in 2018; (iv) will focus on the “strategy and governance” of credit rating agencies and trade repositories; (v) will focus on “approving opinions on position limits and waivers, clarifying issues through Q&A’s, and developing the IT infrastructure to collect, process and publish financial instruments’ reference data” under MiFID II/MiFIR; and (vi) will facilitate a smooth transition for any firms seeking to relocate into EU member states as a result of Brexit.
EMIR – Draft Guidelines on CCP Conflicts of Interest Management
On 1 June, ESMA published a consultation paper regarding proposed Guidelines “on CCP conflicts of interest management” under EMIR. The purpose of these proposed Guidelines is “(i) to set out the criteria CCPs should apply to avoid or mitigate the risks of conflicts of interest and (ii) to ensure a consistent implementation across CCPs.”
EMIR – ESMA Updates list of Third-country CCPs
On 29 May, ESMA published an updated list of recognized third-country CCPs to include New Zealand Clearing Limited as a recognized CCP.
MiFIR – Trading Obligation for Derivatives
On 19 June, ESMA published a consultation paper on ESMA’s “revised approach for implementing the trading obligation for derivatives” under MiFIR. The paper outlines ESMA’s revised approach and draft RTS for implementing the trading obligation under MiFIR, which mandates that all covered OTC derivatives may “only be traded on a regulated market (“RM”), multilateral trading facility (“MTF”), organised trading facility (“OTF”) or a third country trading venue deemed to be equivalent by [ESMA],” following the feedback ESMA received from its discussion paper in 2016. Among other things, ESMA requested feedback on: (i) “ESMA’s assessment and proposed way forward for the criteria assessing the number and types of active market participants”; (ii) ESMA’s proposed process for maintaining a public register for the trading obligations for derivatives; (iii) ESMA’s proposed parameters for determining which classes of interest rate derivatives and credit derivatives should be subject to the trading obligation; (iv) ESMA’s proposed timeline for the application and “phase-in” of the trading obligation; and (v) the cost-benefit analysis of ESMA’s proposals. The paper also includes a “new data analysis of those derivatives that are subject to the clearing obligation under EMIR” as it relates to the trading obligation. The consultation period closes on 31 July 2017.
MiFID II/MiFIR – Definition of “Traded on a Trading Venue”
On 22 May, ESMA published an opinion clarifying the definition of “traded on a trading venue” (“TOTV”) for certain provisions under MiFID II (2014/65/EU) and MiFIR (600/2014/EU). ESMA indicated that for OTC derivatives traded outside of trading venues, only those derivatives “sharing the same reference data details as the derivatives traded on a trading venue” should be considered to be “traded on a trading venue” and subject to the “pre-trade and post-trade transparency requirements” and “transaction reporting and reference data obligations” under MiFIR.
MiFID II/MiFIR – Instruments Traded on Non-EU Trading Venues
On 31 May, ESMA published two opinions regarding MiFIR post-trade transparency rules and MiFID II position limit requirements. The opinions set forth a number of criteria under which: (i) EU market participants conducting transactions on non-EU trading venues “should not be required to publish information about transactions that are concluded on third-country trading venues”; and (ii) “commodity derivatives traded on third-country trading venues . . . should not be considered as OTC trades” for the purpose of MiFID II position limits.
MiFID II/MiFIR – Q&As
On 6 June, ESMA published updated Q&As on investor protection topics under MiFID II and MiFIR. The Q&As cover topics related to: (i) best execution; (ii) suitability and appropriateness; (iii) “recording of telephone conversations and electronic communications”; (iv) record keeping and encryption; (v) “investment advice on an independent basis”; (vi) underwriting and placing; (vii) inducements related to research; (viii) information on costs and charges; and (ix) the appropriateness of complex financial instruments.
On 31 May, ESMA published updated Q&As on the implementation of MiFID II and MiFIR. The updated Q&As cover: (i) algorithmic trading; (ii) “the extension of a pre-existing MiFID I waiver to equity instruments”; (iii) the systematic internalizer regime; (iv) “non-equity instruments and data reporting services providers”; and (v) commodity derivatives.
MiFID II – Product Governance Guidelines
On 2 June, ESMA published its final report on product governance requirements under MiFID II aimed at ensuring “that firms which manufacture and distribute financial instruments act in the clients’ best interests during all the stages of the life-cycle of products.” The report includes: (i) a “high-level cost-benefit analysis; (ii) the opinion of the Securities and Markets Stakeholder Group; (iii) feedback received from ESMA’s October 2016 consultation; (iv) full text of the guidelines; and (v) examples regarding the applicability of the new guidelines.
MiFID II/MiFIR – Exemption for Third-country Central Banks
On 12 June, the European Commission adopted a Delegated Regulation (C(2017) 3890) regarding the “exemption of certain third-country central banks in their performance of monetary, foreign exchange and financial stability policies from pre- and post-trade transparency requirements” under MiFID II/MiFIR. Under this rule, the European Commission may grant an exemption from pre- and post-trade transparency requirements for non-equity financial instruments that benefits regulated markets where the counterparty is a member of the European System of Central Banks (“ESCB”) and “where that transaction is entered into in performance of monetary, foreign exchange and financial stability policy which that member of the ESCB is legally empowered to pursue and where that member has given prior notification to its counterparty that the transaction is exempt.”
Benchmarks Regulation – Framework for Mandatory Benchmarks Contributions
On 2 June, ESMA published a methodological framework to enhance supervisory convergence with respect to the supervision of critical benchmarks under the Benchmarks Regulation (EU) 2016/1011. The framework sets out criteria aimed at assisting national authorities in selecting “the supervised entities that are to be required to contribute input data.” The current framework has been developed only regarding Interbank Offered Rates (“IBORs”) and Euro OverNight Index Average (“EONIA”).
Benchmarks Regulation – Cooperation Arrangements with Third Countries
On 1 June, ESMA published its final report on draft RTS on cooperation arrangements with third countries under the Benchmarks Regulation. The report sets out “minimum content for cooperation arrangements with competent authorities of third countries whose legal framework and supervisory practices have been recognized as equivalent.”
Market Abuse Regulation – Financial Instrument Reference Data System
On 30 May, ESMA published a Communication announcing the launch of the Financial Instrument Reference Data System (“FIRDS”), ESMA’s system for collecting financial reference data under the Market Abuse Regulation (“MAR”) and MiFIR. ESMA indicated that the FIRDS will become operational on 17 July 2017 for the collection of data under MAR. Market participants and investment firms will be able to use FIRDS to transfer “reference data concerning financial instruments for which a request for admission to trading was made and were admitted to trading or were traded from 3 July 2016 onwards.” ESMA indicated that it intends to publish further Communications on the implementation of the FIRDS under MiFIR.
Market Abuse Regulation – Q&As
On 30 May, ESMA published updated Q&As on the application of the MAR. The updated Q&As cover: (i) the “disclosure of inside information”; (ii) “the prevention and detection of market abuse”; (iii) “managers’ transactions”; and (iv) “investment recommendation and information recommending or suggesting an investment strategy.”
CSDR – Guidelines on Calculation of Indicators
On 1 June, ESMA published two sets of Guidelines, and their relevant reporting templates, on the implementation of the Central Securities Depository Regulation (909/2014/EU) (“CSDR”). The Guidelines cover the “process for the collection, processing and aggregation of the data necessary for the calculation of the indicators to determine”: (i) “the most relevant currencies in which settlement takes place” (the first set of Guidelines); and (ii) “the substantial importance of a CSD for a host Member State” (the second set of Guidelines)
CSDR – Updated Q&As
On 2 June, ESMA published updated Q&As on Regulation (EU) No 909/2014 on improving securities settlement in the EU and on central securities depositories. The updated Q&As “clarify the timing and the scope of CSDR.”
UPCOMING EVENTS AND DEADLINES
o 30 June: European Commission consultation on conflict of laws rules for securities ownership and third-party effects of the assignment of claims closes.
o 3 July: ESMA consultation on the endorsement regime under the Credit Rating Agencies Regulation closes.
o 3 July: European Banking Authority public hearing on developing a new prudential regime for MiFIR investment firms.
o 31 July: International Association of Insurance Supervisors consultation on ICP 13: Reinsurance and Other Forms of Risk Transfer closes.
o 31 July: ESMA consultation on draft RTS for the trading obligation of derivatives under MiFIR closes.