European Union: The Securities Financing Transactions Regulation

Last Updated: 15 December 2015
Article by David Walsh and Donnacha O'Conner

Most Read Contributor in Ireland, July 2017

Entities engaging in securities financing transactions and total return swaps, including both UCITS and Alternative Investment Fund Managers ("AIFMs") should be aware that the Council of the European Union formally adopted the draft EU Regulation on reporting and transparency of securities financing transactions (the "Regulation") in November 2015. The Regulation will provide for reporting and disclosure requirements (subject to certain transitional implementation dates) in relation to securities financing transactions ("SFTs"). Once the Regulation enters into force, it shall be directly applicable in all EU Member States.

The Regulation is expected to be published in the Official Journal of the EU shortly and will come into force 20 days after publication.

A link to the current draft Regulation can be found here.

Set out below is an overview of the Regulation, its key requirements and the dates by which those requirements come into force.

Transparency

The Regulation is one of the responses to the global financial crisis and the risks that SFTs pose. Bodies such as the Financial Stability Board and the European Systemic Risk Board involved in examining the risks associated with shadow banking have identified that a lack of transparency in the use of SFTs has prevented regulators and supervisors, as well as investors, from correctly assessing and monitoring the associated risks.

The Regulation introduces measures to improve transparency in three main areas, namely:

  • the monitoring of the build-up of systemic risks in the financial system related to SFTs;
  • the disclosure of information on such transactions to investors whose assets are employed in the transactions; and
  • reuse of collateral provided by counterparties.

The Regulation is designed to improve transparency with the aim of preventing banks and other financial intermediaries from trying to circumvent banking regulation by shifting parts of their activities to the less-regulated bank-like credit intermediation (the so called shadow banking sector).

Scope and Impact

The Regulation applies to counterparties to an SFT and also to a counterparty that is engaging in reuse of collateral (not just confined to STF counterparties).

It applies in respect of total return swaps (as defined in the Regulation) and SFTs which are defined as:

(a) repurchase transactions;

(b) securities or commodities lending and securities or commodities borrowing;

(c) buy-sell back transaction or sell-buy back transaction;

(d) margin-lending transaction.

Each of the above is a defined term in the Regulation.

In addition to these categories, the European Commission may by delegated act expand the list of the types of transaction that will constitute an SFT having regard to whether such other types of transaction have an equivalent economic effect and pose similar risks to SFTs. The definition of SFT in the Regulation does not include derivative contracts as defined under the European Markets Infrastructure Regulation ("EMIR").

Not just EU entities!

The Regulation is not confined to entities located within the EU.

The Regulation shall apply to:

(i) an EU entity's non-EU branch that is party to an SFT or engaging in collateral reuse; and also

(ii) a non-EU entity that is party to an SFT or engaging in collateral reuse, if (a) the SFT is concluded or the reuse if effected by that non-EU entity's EU branch or (b) the reuse concerns financial instruments provided under a collateral arrangement by an EU counterparty or EU branch.

A Package of Measures

The key requirements include:

(i) Reporting

The Regulation provides that counterparties to an SFT are required to report certain details to a trade repository within one working day of the conclusion, modification and termination of the SFT and are also obliged to keep records of the SFT for at least five years following its termination.

A similar reporting obligation is imposed on counterparties to derivatives under EMIR and therefore clients may be in a position to build on pre-existing infrastructures, operational processes and formats.

Both counterparties are required to report the details of the SFT. However, there are exceptions for certain non-financial counterparties (criteria set out in the Regulation) whereby a financial counterparty is required to report the details on behalf of both parties. The UCITS management company or AIFM shall be responsible for reporting on behalf of its respective funds under management. It should be noted that any counterparty subject to the reporting obligation may delegate the reporting. Clients may be currently delegating reporting under EMIR and therefore should consider discussing the Regulation with their service provider.

The reports shall include (a) the parties to the SFT and, where different, the beneficiary of the rights and obligations arising from it; (b) the principal amount; currency; assets used as collateral and their type, quality, and value; the method used to provide collateral; whether collateral is available for reuse; in cases where it is distinguishable from other assets, whether it has been reused; any substitution of the collateral; the repurchase rate, lending fee or margin lending rate; haircut; value date; maturity date; first callable date; and market segment.

(ii) Periodic Accounts

UCITS management companies and AIFMs shall inform investors on the use they make of SFTs and total return swaps and this shall be included in the annual and semi-annual accounts for UCITS and annual accounts for AIFs. The information shall include the data provided for in Section A of the Annex to the Regulation.

(iii) UCITS Prospectus and the disclosure by the AIFM to investors

The UCITS Prospectus and the disclosure by the AIFM to investors shall specify the SFT and total return swaps that the fund can use and include a clear statement that these techniques are used.

The Prospectus and the disclosure by the AIFM to investors shall include the data provided for in Section B of the Annex to the Regulation. Section B provides as follows:

  • General description of the SFTs and total return swaps used by the fund and the rationale for their use;
  • Overall data to be reported for each type of SFTs and total return swaps;
    • Types of assets that can be subject to them;
    • Maximum proportion of AUM that can be subject to them;
    • Expected proportion of AUM that will be subject to each of them;
  • Criteria used to select counterparties (including legal status, country of origin, minimum credit rating);
  • Acceptable collateral: description of acceptable collateral with regard to asset types, issuer, maturity, liquidity as well as the collateral diversification and correlation policies;
  • Collateral valuation: description of the collateral valuation methodology used and its rationale, and whether daily mark-to-market and daily variation margins are used;
  • Risk management: description of the risks linked to SFTs and total return swaps , as well as risks linked to collateral management, such as operational, liquidity, counterparty, custody and legal risks and, where applicable, the risks arising from its reuse;
  • Specification of how assets subject to SFTs and total return swaps and collateral received are safe-kept (e.g. with fund custodian);
  • Specification of any restrictions (regulatory or self-imposed) on reuse of collateral;
  • Policy on sharing of return generated by SFTs and total return swaps: description of the proportions of the revenue generated by SFTs and total return swaps that is returned to the fund, and of the costs and fees assigned to the manager or third parties (e.g. the agent lender).The prospectus or disclosure to investors shall also indicate if these are related parties to the manager.

UCITS funds may be in a position to rely on existing disclosure (subject to a review of the relevant fund documentation) for certain of the above disclosure requirements. For example, UCITS funds are currently subject to disclosure requirements in relation to collateral including disclosing (i) permitted types of collateral; (ii) level of collateral required; (iii) haircut policy; and (iv), in the case of cash collateral the re-investment policy (including the risks arising from the re-investment policy).

However, while qualifying investor AIFs are required to disclose any collateral and asset reuse arrangements, the collateral disclosure requirements under the Regulation are more prescriptive.

Other requirements are new and will require input from the investment manager (e.g. type of assets that can be subject to SFTs and maximum and expected proportion of AUM that can be subject to each of them).

When considering disclosure, it will also be necessary to have regard to existing requirements pursuant to other relevant legislation. For example, in relation to the disclosure requirements relating to criteria used to select counterparties, this will need to comply with the UCITS requirements in relation to counterparty criteria.

(iv) Collateral Reuse

A party reusing collateral received shall be required to disclose the risks and consequences of either (i) granting a right of use of collateral provided under a security collateral arrangement or (ii) concluding a title transfer arrangement. In addition, the receiving party must obtain the express written consent of the providing party in respect of a security collateral arrangement that includes a right of reuse or the provision of collateral under a title transfer arrangement. Such right of reuse must be exercised in accordance with the collateral arrangement's terms under the agreement.

For the purpose of the Regulation, "reuse" means the use by a receiving counterparty, in its own name and on its own account or on the account of counterparty, of financial instruments received under a title transfer or security collateral arrangement.

It is worth noting that for UCITS funds, non-cash collateral cannot be sold, pledged or re-invested and therefore there are higher standards already imposed for UCITS funds.

While subject to transition period as outlined below, clients will need to review and potentially amend their existing collateral arrangements, including master agreements, and to ensure new collateral arrangements comply with the Regulation.

(v) Additional Matters

The Regulation also sets out requirements relating to the registration and supervision of a trade repository, transparency and availability of such data, supervision and competent authorities and administrative sanctions and other measures.

In relation to administrative sanctions and other measures, the Regulation provides that Member States must empower competent authorities to impose sanctions for breaches of the SFT reporting and reuse requirements. Such measures include a public statement, the withdrawal or suspension of authorisation and a temporary ban against any person discharging managerial responsibilities. A breach of the reporting requirement shall not affect the validity of the terms of the SFT itself or the possibility of the parties to enforce the terms of the SFT.

The Regulation also provides that counterparties shall have in place appropriate internal procedures for their employees to report breaches of the SFT reporting and reuse requirements.

It is also worth noting that the Regulation shall amend the definition of "OTC derivative or OTC derivative contract" under EMIR.

ESMA Technical Standards

The Regulation provides that the Commission should be empowered to adopt regulatory technical standards by means of delegated acts in the following areas: the details of the different types of SFTs; the details of the application for registration or extension of services of a trade repository; the details of procedures to verify the details of SFTs reported to trade repositories; the frequency and the details of publication of, the requirements for, and the access to, trade repositories' data; and, if necessary, the content of the Annex.

ESMA will issue regulatory technical standards for this Regulation and the European Council has advised that ESMA should take into consideration the existing technical standards established under EMIR regulating trade repositories for derivative contracts and their future developments.

The Commission should be empowered to adopt implementing technical standards developed by ESMA with regard to the format and frequency of the reports, the format of the application for registration or extension of services of a trade repository, as well as the procedures and forms for exchange of information on sanctions with ESMA.

Transitional Arrangements - Time to Start Preparing

The Regulation shall enter into force on the 20th date following that of its publication. The Central Bank indicated in January 2014 that the earliest the Regulation would enter into force was mid-2015. It now seems that it will enter into force by the end of 2015 or early 2016. However, the precise timing is yet to be confirmed.

There are a number of transitional periods associated with various requirements in the Regulation

Requirement

Date

Requirements on reuse of collateral

Six months following entry into force and shall apply to collateral arrangements existing at the date of entry into force

Disclosure in periodic reports

Twelve months following entry into force

Disclosure in UCITS Prospectus and pre-investment disclosure for AIFs

Eighteen months following entry into force in the case of collective investment undertakings subject to the UCITS Directive or AIFMD that are constituted before the date of entry into force of this Regulation

The transitional period includes a phased introduction after the date of entry into force of the delegated act adopted by the Commission relating to the reporting obligation. The reporting obligation will apply to an SFT existing before the date on which the obligation takes effect (as set out in the table below) if (i) the remaining maturity of the SFT is greater than 180 days; or (ii) the SFT has an open maturity and remains outstanding 180 days after the date of application.

The first reporting period will depend on the type of financial counterparty as follows:

Type of financial counterparty

Date

Investment firms and credit institutions

Twelve months following entry into force

Central securities depositaries and central counterparties

Fifteen months following entry into force

Insurance/reinsurance undertakings, UCITS/UCITS management companies, AIFs/AIFMs and institutions for occupational retirement provision

Eighteen months following entry into force

Non-financial counterparties

Twenty-one months following entry into force

Next Steps

We would advise that clients consider the Regulations and its requirements and to start preparing for its entry into force.

For asset managers contemplating any new collective investment schemes and/or new sub-funds, we would advise that you now reach out to your usual contact within Dillon Eustace to discuss the impact of the Regulation, particularly as funds approved by the Central Bank of Ireland 20 days or more following the entry into force of the Regulation shall be required to comply with the disclosure requirements.

In order to minimise additional operational costs for market participants, clients should consider in what areas they can build on pre-existing infrastructures, operational processes and formats which have been introduced with regard to reporting derivative contracts to trade repositories under EMIR.

Clients may also wish to engage in any ESMA consultation in relation to the technical standards to be adopted.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
 
In association with
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Check to state you have read and
agree to our Terms and Conditions

Terms & Conditions and Privacy Statement

Mondaq.com (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

Use of www.mondaq.com

You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about Mondaq.com’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.

Disclaimer

Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.

Registration

Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.

Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to unsubscribe@mondaq.com with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.

Cookies

A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

Log Files

We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.

Links

This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.

Mail-A-Friend

If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.

Security

This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to webmaster@mondaq.com.

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to EditorialAdvisor@mondaq.com.

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at enquiries@mondaq.com.

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at problems@mondaq.com and we will use commercially reasonable efforts to determine and correct the problem promptly.