Eric de Nexon's Regulatory Chronicle - January 2021

First, I’d like to wish you an excellent 2021. As this new year begins, I wish you all the best in the coming months, both personally and professionally.

And I hope that better will be the keyword this year, following a year that we can all agree was a difficult one.

As I have done in previous years, I will dedicate this letter for the month of January to discussing the most important topics to be dealt with in this new year, as well as in the years ahead. As I’ve said in the past, in the domain of regulatory watch and market infrastructures projects we work on fundamental trends and over the long time scale.

So, what’s on the menu?

I’ll start with the appetisers: a smorgasbord of legal and regulatory changes, several of which affect the key laws and regulations enacted after the 2008 financial crisis. Work has already begun on most of these changes, for example, the revised version of the Central Securities Depositories Regulation (CSDR). This comes with an opportunity to review the contents of the settlementdiscipline regime and, particularly, mandatory buy-ins.

Then, there’s the Alternative Investment Fund Managers Directive (AIFMD): Fourteen topics are to be analysed, including the directive’s scope and requirements for authorisation of players, the classification of investors and access to them, the depository scheme, requirements for reporting to supervisory agencies, leverage, and sustainable finance. We should note, though, that the European Commission’s goals could ultimately end up being more limited once the current text has been fully appraised.

From there, we could see a future revision of the directive on Undertakings for Collective Investment in Transferable Securities (UCITS), which would aim for harmonisation between UCITS and AIFMD.

Also up for revision are the regulations on packaged retail and insurance-based investment products (PRIIPs) and the Markets in Financial Instruments Directive (MiFID II). In regard to PRIIPs, three topics are included in the proposed revision to the level-2 texts: performance scenarios, costs and charges, and specific points related to multi-option products (MOPs) offering multiple investment options.

For MiFID II/MiFIR, various proposals were made in 2020 as part of an initial quick fix that received the approval of the European Parliament and Council: in particular, the proposals concern measures to protect investors, with a loosening of obligations to inform professional clients and eligible counterparties, as well as implementing electronic documents by default for individual clients. The effective date of this quick fix is still to be determined.

But the Commission does not intend to stop there. In 2021, new revision proposals will be made based on analyses already conducted by the Commission, opinions issued by ESMA, and responses to past and future consultations. The EC seems to be focusing first on the part dedicated to market infrastructure, targeting the operations of organised trading facility (OTF) platforms created with MiFID II, requirements related to algorithmic trading, the impacts of transparency obligations, implementation of a consolidated tape, and requirements that apply to systematic internalisers. Still, other sections of MiFID II/MiFIR may also be revised such as requirements related to information on costs and charges or to reporting of transactions, which could be extended to management companies.

After these tasty morsels, let’s move on to the main courses. Our regulatory authorities are determined not to disappoint us, offering a wide variety of dishes at different price points. Let’s start with the sumptuous and complex, slow-cooked initiatives from the European Commission. I can identify at least three: digital finance, sustainable finance, and the Capital Markets Union (CMU) phase II.

In regards to digital finance, a digital “package” was adopted in September 2020. This package has several components, including the general digital finance strategy, a directive and a regulation on operational resilience and the supervision of third-party service providers (cloud technology, etc.), a retail payments strategy, and two legislative proposals on cryptoassets that are of particular interest to us: one on the pilot regime covering tokenised financial instruments and the second on cryptoassets not currently covered by the regulation (stable coins, utility tokens, etc.). All of these concern and impact back-office activities to varying degrees. Several consultations have been launched on these subjects and we firmly intend to respond to them.

Next, there are regulations to support sustainable finance, often referred to as ESG finance, which is one of the priorities for the current Commission president following publication of her European Green Deal. This framework has already been partially developed and the first measures will take effect in the first quarter of 2021. For the authorities, this means ensuring that financial market players encourage green investment and that they also evaluate the risks associated with their investments using sustainability criteria.

Several laws and regulations are concerned:

• First, there’s the regulation establishing sustainability criteria, the much-discussed taxonomy. The taxonomy is centred on six criteria: two dealing with climate change, the four others dealing with the preservation of marine resources, the circular economy, pollution and biodiversity. The two related to climate change will take effect in January 2022; the other four in January 2023.
• Another measure establishes the transparency obligations incumbent upon financial players in regard to their sustainable investment strategies and the risks incurred. It’s important to note that this measure will gradually take effect starting in March 2021, even though the implementing texts will not be available until 2022: the affected stakeholders will be responsible for anticipating changes and adapting to them. In certain cases, stakeholders will be able to rely on instructions issued by their domestic regulators.

To complement these general measures, other regulations will be adapted to account for sustainability criteria, notably MiFID II, AIFMD, UCITS, and the Non-Financial Reporting Directive (NFRD). The Benchmark Regulation was already revised in this regard in 2020.

One of the crucial subjects in this domain, as in many others in today’s world, is the availability and quality of data.

I previously mentioned the CMU phase II, which has long been one of the European Commission’s top menu items, their house speciality. It has become particularly important in the current economic crisis: indeed, we need to intensify actions to stimulate financing of the economy by markets and to strengthen companies’ equity. I won’t go into the details because in a previous letter I already detailed the ingredients of the CMU phase II recipe. That said, I’d like to remind you that few of these measures concern back-office activities, mainly some adaptations to the Shareholder Rights Directive and a measure aiming to improve tax withholding and collection procedures: basically, just some nibbles for us there.

Now that we’ve had a taste of these initiatives cooked up by the European Commission, let’s move on to those initiated by the European Central Bank.

First, there’s the technical consolidation of the T2S and T2 platforms, which will lead to the replacement of T2 based on T2S technical foundations, as well as the sharing of certain operations modules by the two infrastructural systems, for example management of liquidity and access to the platforms. This project is expected to be completed in November 2022, a year after the date initially planned because of impacts from the pandemic. Note that at that same time, SWIFT will launch the migration of payment messages to the ISO 20022 standard.

Another important project is the ECMS platform to manage collateral mobilised by central banks in the Eurosystem as part of their monetary policy operations: the interactions between the counterparties of the 19 central banks and between the banks themselves will be managed via this single platform using harmonised standards and procedures, with ISO 20022 messages, of course. The ECMS should be operational in November 2023, which again, for the same reasons previously mentioned, is a year after the initial planned launch date.

A third project is being carried out in parallel to the ECMS project: the Single Collateral Management Rulebook for Europe (SCoRE), a project that will extend the ECMS standards and procedures to all collateral management operations conducted by the financial industry. SCoRE implementation will begin with the launch of the ECMS and will be completed sometime after 2025.

To end, I’d like to mention studies launched by the ECB regarding bond issuance procedures in Europe. Once again, the goal of these studies is to work on harmonisation of these procedures and perhaps then on implementation of a single European platform to manage bond issues.

I hope you’ve left some room for dessert. Although our friends across the English Channel are not known for their cuisine, they have nonetheless prepared for us a Brexit pudding. I’m sure you’re familiar with it. On 24 December 2020, a trade agreement was signed at the last minute by the European Union and the United Kingdom. To the delight of those with refined palates, thanks to this agreement, which includes a high-profile deal on fishing, seafood will keep flowing.

Unfortunately, for the time being, the trade agreement doesn’t say much about financial services, other than a commitment to continue discussions about how to improve upon the current situation. As it stands, the financial markets aspects look a bit more like a hard Brexit since there’s no more passporting and few or no equivalences have been approved by the parties. The cliff-edge situation was avoided thanks to supporting measures put in place before the end of the transition period. However, these measures are all temporary and we’ll have to see what comes out of upcoming discussions and how that will influence the organisation and activities of financial players on both sides of the Channel. It seems that this dessert has somewhat of a bitter aftertaste.

So, there you have it, a feast of measures, a buffet of work to do, and years’ worth of prospects for regulatory monitoring.

Enjoy!

Once again, I wish you an excellent new year.