European Union: Y2K Or Reverse Big Bang?

As the Millennium approached, concerns about computer systems malfunctions, and the possible impact of what became known as Y2K, grew to the point that nearly all large organisations had Y2K task forces and contingency plans. The history is well known. 1 January 2000 came and went, and the Y2K fears failed to materialise.

The spectre of a possible exodus of London-based financial services firms and other regulated entities in the aftermath of the United Kingdom's Brexit referendum has received much coverage. In the face of uncertainty as to the timing (in all likelihood two years away at least) and terms of a UK exit from the European Union, many of these firms are understandably accelerating their own contingency planning in anticipation of a potential loss of "passporting" rights—the now well-documented rights of an entity authorised in one EU member state to provide regulated services either on a cross-border basis or through locally established branches in every other member state of the EU without needing to be separately authorised outside of the home member state.

The prospect of financial services firms relocating significant parts of their businesses to other cities in Europe has wide-ranging implications, from the effect on potentially thousands of employees and their families to the potential value of City of London real estate.

In this Commentary, we explore whether the loss of passporting rights would, in terms of regulatory and operational significance, be equivalent to the City of London's "Big Bang" of the 1980s, or would it be more a Y2K whimper.

The Current Framework and Best- and Worst-Case Scenarios

London dominates the EU's capital markets and is overwhelmingly the largest market for authorised financial services and regulated real estate businesses in the EU. Many authorised firms operating cross border from the UK to the EU currently do so on the basis of an EU "passport" under EU financial services-related directives.

In the short term, and until Brexit is implemented, the current EU framework on financial services regulation will continue to apply. Accordingly, there is no immediate reason to assume that London will cease to be the European hub for financial services businesses. However, the uncertainty around the UK's future relationship with the EU causes concern. The best-case scenario is that the UK retains access to the EU Single Market (through admission to the EEA or otherwise). If that happens, it would very much be business as usual for authorised firms that operate from the UK. Not many commentators are predicting this form of soft landing, and certainly many businesses are planning for the scenario where the UK becomes a so-called "third country" (i.e. non-EU country) for the purposes of EU financial services regulation. It is this scenario that we explore in more detail below.

Central to the analysis below is the concept of "equivalence". Under the relevant EU directives (notably AIFMD and MiFID II—discussed in further detail below) non-EU businesses may have access to institutional clients in the EU, via a "third-country passport". This is available if the non-EU country's regulatory regime is regarded as equivalent.

We consider it to be highly likely that the European Commission would determine the UK's regulatory regime to be equivalent to EU standards, and therefore access to institutional investors would remain possible. This is because at the point of exit, the UK's financial services legislative framework would reflect, and in many cases be derived from, EU law. It would therefore be difficult for the European Commission to determine that the UK was not an equivalent jurisdiction.

Non-EU Entities with a UK Presence

Understandably, given London's dominant position, much of the current focus has been on how significant the fallout will be for non-UK entities with a UK presence if the UK exits the EU without access to the EU Single Market. This depends on whether such non-EU entities operate in the UK either as subsidiaries or branches and whether their businesses require access to institutional or retail clients.

Branches v Subsidiaries; Institutional v Retail Clients. Those non-EU companies currently operating in the UK through branches will not be affected by Brexit for regulatory reasons, as they do not currently enjoy passport rights under the Single Market directives anyway. These businesses tend to establish in the UK to serve the domestic market and/or to access the UK market infrastructure—i.e. LSE, LIFFE, Lloyds market, LME etc.—rather than to benefit from the EU passporting rights under the Single Market. There is therefore no regulatory reason for such banks and financial institutions to leave the UK as a result of Brexit. Of course, as third-country firms, they could still enjoy access to the institutional market, assuming the EU regards the relevant home country regulatory regime as equivalent.

For those authorised firms that operate in the UK through subsidiaries, which are licensed or regulated in the UK, the consequences of a UK exit are potentially more significant.

If the UK exit involves it becoming a third country, those subsidiaries would not be able to rely on EU passports (as the relevant directives would fall away). Whether this affects the ability of a financial services business to carry out its business will depend on the nature of its clients. If a business needs access to institutional clients (i.e. professional clients, such as pension funds, government development funds and significant corporates), such access may not be affected by Brexit. This is because of the principle of equivalence described above.

If a business operating from a third country needs access to retail clients (i.e. individuals, small companies and other clients which do not fit the institutional mould), then it can only do so on a reverse solicitation basis (i.e. the client would need to engage with the business on its own initiative and not have been solicited by the business). If the UK becomes a third country, then this limitation will present significant challenges to private wealth firms and similar businesses engaging with EU retails clients. However, the position as regards retail clients may be softened depending on the negotiations between the UK and the EU in relation to Brexit. We will therefore monitor these negotiations once they commence.

EU27 Entities with a UK Presence

If the UK becomes a third country, it is unlikely that branches of EU firms located in the remaining EU member states (the EU27) will have to close or convert to UK authorised subsidiaries. The more likely scenario is that they will be "grandfathered" by the UK regulators as directly authorised UK branches of the EU firms. Those entities currently operate in the UK under an EU directive passport. Accordingly, they do not need to be authorised by the UK regulators. However, we need to wait for the unfolding of the post-Brexit model before we can be sure what will happen.

In the medium term, whether a business needs to consider relocating any of its operations will depend on the types of clients it wishes to access in the EU and the manner in which its business is currently structured. As demonstrated above, if such businesses have institutional clients, the landscape may not fundamentally change. Similarly, those non-EU entities which use branches to operate in the UK will be unaffected by Brexit. On the basis of the foregoing, we take the view that most businesses will continue to enjoy access to their EU client base, even if there is a complete "divorce" from Europe.

The Impact on Regulated Real Estate Businesses

There are a number of real estate sector businesses that are themselves regulated. Typically, they are regulated for insurance mediation services, investment advice or alternative fund management activities. To the extent that they engage with EU clients, the points above apply, and the real estate businesses' approach will depend on whether they market to institutional or retail clients.

Third-Country Passporting—MiFID II. As real estate firms tend to engage with institutional clients, their access to the Single Market from the UK should not be materially affected. This is because the Markets in Financial Instruments Directive, known as MiFID II, comes into effect in January 2018 and introduces a passporting mechanism to third-country investment firms, allowing them access to institutional investors.It is therefore likely that a UK-authorised real estate firm providing advisory/arrangement services for these types of clients would be able to do so via the MiFID II third-country passport, even after Brexit.

Third-Country Passporting—AIFMD. Perhaps of more interest to the larger real estate firms, will be their ability to market real estate funds in Europe. Although the Alternative Investment Fund Managers Directive, or AIFMD, envisaged the extension of the EU passporting regime to include all full-scope managers ("AIFMs") of alternative investment funds ("AIFs"), passporting is not yet available to non-EU firms because it has not yet been decided whether they are equivalent.

In its advice to the European Parliament, the Council and the Commission on the application of the AIFMD passport to non-EU AIFMs and AIFs published on 19 July 2016, the European Securities and Markets Authority ("ESMA") concluded that there were no significant obstacles impeding the extension of the AIFMD passport to managers in Canada, Guernsey, Japan, Jersey and Switzerland. ESMA was more equivocal about the extension of the passport to managers in other jurisdictions, including the United States. The Parliament, the Council and the Commission are now considering ESMA's advice.

Should the UK become a third country, as noted above, we consider it is likely that ESMA would conclude that it is an equivalent jurisdiction for the purposes of the AIFMD, and therefore UK-authorised AIFMs, like those in the Channel Islands for example, would be able to access institutional investors in the EU via a third-country passport.

Conclusion

Ultimately, this is not a Y2K situation, and it is appropriate that authorised firms give significant consideration to their contingency planning. But neither is it a reverse "Big Bang". While it is undeniable that authorised businesses, and therefore real estate businesses which rely on such businesses as tenants, face a period of uncertainty, it is very likely that access to institutional clients in the EU will continue post-exit and regardless of the terms of that exit.

The UK will either maintain Single Market access and continue with business as usual, or it will be in a strong position to obtain the equivalence decisions required to allow its authorised firms access to EU institutional investors. As such, from a regulatory perspective, it is hard to see a compelling argument for an exodus.

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
Related Video
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.