AML/CTF, Sanctions and Insider Trading
Draft EU Guidelines on Supervisory Cooperation on Anti-Money Laundering and Countering the Financing of Terrorism
On November 8, 2018, the Joint Committee of the European Supervisory Authorities launched a consultation on draft joint guidelines on the cooperation and information exchange between national regulators supervising banks and other financial institutions for compliance with Anti-Money Laundering and Countering the Financing of Terrorism rules. The Fourth Money Laundering Directive requires that EU member states allow, without undue restriction, the exchange of information and provision of assistance between national regulators. The ESA's proposed guidelines aim to set out how that can be achieved in practice. The ESAs are proposing that a college of supervisors should be established where a financial institution is supervised in three or more EU member states. The draft guidelines set out rules on the establishment and operation of the colleges. For firms that do not require a college but which operate in two member states, the ESAs propose a process for the bilateral exchange of information between national regulators.
The consultation closes on February 8, 2019.
The consultation paper is available at: http://www.eba.europa.eu/documents/10180/2440050/Consultation+Paper+on+JC+GLs+on+cooperation+and +information+exchange+for+AML+CFT+supervisory+purposes+.pdf.
Bank Prudential Regulation & Regulatory Capital
EU Legislation Published to Update Supervisory Reporting Requirements
A Commission Implementing Regulation supplementing the Capital Requirements Regulation has been published in the Official Journal of the European Union. The Implementing Regulation amends the existing Implementing Regulation ((EU) No 680/2014) to reflect the gradual supplementation and amendment of elements of the CRR reporting requirements by the adoption of further Regulatory Technical Standards. The Amending Regulation was adopted by the European Commission on October 9, 2018. It amends the existing Implementing Regulation to set out:
- additional requirements relating to prudent valuation adjustments of fair-valued positions;
- additional requirements to accommodate the reporting on securitization positions subject to the revised securitization framework; and
- minor changes to the reporting requirements on the geographical distribution of exposures
The Amending Regulation will enter into force on November 29, 2018 and will apply directly across the EU from December 1, 2018.
The Commission Implementing Regulation (EU) 2018/1627 is available at: https://eur-lex.europa.eu/legalcontent/EN/TXT/PDF/?uri=CELEX:32018R1627&from=EN.
Brexit for Financial Services
Statement by EU Supervisory Authority Confirms No EU Transitional Measures for UK Credit Rating Agencies and Trade Repositories on a Hard Brexit
On November 9, 2018, the European Securities and Markets Authority issued a public statement urging customers of credit rating agencies and trade repositories to prepare for a "no deal" Brexit. The European Market Infrastructure Regulation requires derivatives subject to the reporting obligation to be reported to either a registered trade repository established in the EU or a recognized third-country trade repository. The CRA Regulation provides that banks, investment firms, insurers, reinsurers, management companies, investment companies, alternative investment fund managers and CCPs may only use credit ratings for certain regulatory purposes if a rating is issued by: (i) an EU CRA registered with ESMA; or (ii) a third-country CRA under the endorsement regime or the equivalence/certification regime. Without the EU putting in place a temporary regime (as the U.K. is doing), U.K. CRAs and trade repositories will lose their EU registration when the U.K. leaves the EU on a "hard Brexit." ESMA reiterates that all market participants must ensure that they continue to comply with their obligations under EMIR, the CRA Regulation and other EU legislation and should monitor the Brexit-related public statements issued by CRAs and trade repositories.
ESMA's statement confirms that U.K. CRAs and trade repositories are implementing contingency plans in preparation for a "no deal" Brexit. However, further action is needed. ESMA is evaluating several applications submitted by both CRAs and trade repositories and states that it intends to start negotiations with the U.K. Financial Conduct Authority to ensure that the requisite arrangements for information exchange are in place by March 29, 2019.
In preparation for a "no deal" Brexit, the U.K. is establishing (i) a conversion regime for U.K. and third-country CRAs and trade repositories currently registered or certified by ESMA; and (ii) a temporary registration regime for newly established U.K. entities that are part of a group of CRAs or trade repositories with an existing ESMA registration before exit day.
The statement is available at: https://www.esma.europa.eu/press-news/esma-news/esma-asks-clients-creditrating-agencies-and-trade-repositories-prepare-no-deal, details of the U.K.'s Brexit preparations for CRAs and trade repositories are available at: https://finreg.shearman.com/UK-Plans-Transitional-Regime-for-CreditRatings-f and https://finreg.shearman.com/draft-uk-post-brexit-legislation-to-onshore-trade and details of the FCA's statement on the U.K. preparations are available at: https://finreg.shearman.com/uk-regulatorprovides-information-on-brexit-proce.
Proposed Exemption From the EU Clearing Obligation for OTC Derivatives Novated to EU Counterparties in Preparation for a 'No Deal' Brexit
On November 8, 2018, ESMA proposed the introduction of a 12-month exemption from the clearing obligation to facilitate the novation of uncleared OTC derivative contracts to EU counterparties in the event of a "no deal" Brexit. EMIR imposes a clearing obligation on EU firms that are counterparties to certain OTC derivatives contracts. The clearing obligation applies to Interest Rate Swaps denominated in seven currencies (EUR, GBP, JPY, USD, NOK, PLN and SEK) and to two classes of credit default swap indices (iTraxx Europe Main and iTraxx Europe Crossover). The obligation to clear OTC IRS denominated in all seven currencies is in force for clearing members of EU CCPs as well as large financial counterparties and alternative investment funds. The IRS clearing obligation for IRS denominated in the G4 currencies will apply to small financial counterparties and AIFs from June 21, 2019 and to non-financial counterparties from December 21, 2018, and for IRS denominated in CZK, DKK, HUF, NOK, SEK and PLN, from August 9, 2018. The CDS clearing obligation is in force only for clearing members of EU CCPs. The CDS clearing obligation for large financial counterparties, AIFs and NFCs will apply from August 9, 2019. It will apply to small financial counterparties and AIFs from June 21, 2019.
On Brexit, U.K. firms will lose the passports which enable them to provide certain services across the EU. If the EU and the U.K. fail to reach an agreement on the U.K.'s exit from the EU, U.K. firms may be unable to perform some of the operations for their derivatives contracts with EU clients. In preparation for this eventuality, firms may want to novate these contracts to entities that are established and authorized in an EU27 member state. However, novation of an OTC derivatives contract may trigger the clearing obligation and result in unexpected taxes or costs to the firms (arising from an event over which they have no control). ESMA considers that this situation gives rise to a disincentive for firms to transfer contracts from U.K. firms to EU firms and would result in an unlevel playing field between EU firms.
To address this, ESMA is proposing to amend the RTS made under EMIR that establish the clearing obligation to introduce a time-limited exemption from the clearing obligation. This would apply for bilateral OTC derivatives contracts that have either not yet become subject to the clearing obligation or have not been novated after a clearing obligation has arisen. The exemption would only apply to a novation to a new EU counterparty and would not apply to other life-cycle events performed by the parties to a derivatives contract. The exemption would be available for a period of 12 months following the U.K.'s exit from the EU. ESMA's view is that this should provide firms with sufficient time to negotiate any novation and for repapering that needs to be completed. ESMA encourages market participants to begin their preparations immediately. The exemption will not come into effect if the EU and U.K. agree the terms of the U.K.'s exit and the withdrawal agreement has entered into force and will not apply if the EU and the U.K. agree to extend the two-year negotiation period under the terms of the Treaty on European Union.
ESMA has submitted to the European Commission proposed amendments to the following three RTS to give effect to the proposed exemption:
- RTS on the clearing obligation for IRS denominated in G4 currencies (RTS 2015/2205);
- RTS on the clearing obligation for CDS (RTS 2015/592); and
- RTS on the clearing obligation for IRS denominated in certain other currencies (RTS 2016/1178)
UK Financial Regulators Issue Directions for Post-Brexit Temporary Permissions Regime
The FCA and the Prudential Regulation Authority issued Directions detailing how an EEA firm currently passporting into the U.K. should notify each of the regulators of the firm's intention to benefit from the Temporary Permissions Regime in the event of a "no deal" Brexit. The Direction was made under the EEA Passport Rights (Amendment, etc., and Transitional Provisions) (EU Exit) Regulations 2018 (made on November 6, 2018). The Regulations provide for a Temporary Permissions Regime for firms that are currently authorized to carry on a regulated activity in the U.K. under an EEA passporting right that have either applied for U.K. authorization prior to the U.K. withdrawal date or have notified the relevant U.K. regulator of their intention to continue carrying on passported activities. Temporary permissions would deem firms within the regime as authorized for their current activities for a maximum of three years, subject to a power for HM Treasury to extend the regime's duration by increments of 12 months.
Both the PRA and the FCA are requiring firms to submit the Temporary Permission Notification Form using Connect between January 7, 2019 and March 28, 2019.
The FCA's Direction is available at: https://www.fca.org.uk/publication/handbook/temporary-permissionnotification-direction.pdf, the PRA's Direction is available at: https://www.bankofengland.co.uk/- /media/boe/files/eu-withdrawal/pra-direction-temporary-permission-and-variation-notification-before-exitday.pdf and the EEA Passport Rights Regulations 2018 are available at: http://www.legislation.gov.uk/uksi/2018/1149/pdfs/uksi_20181149_en.pdf.
UK Legislation Published for Brexit on Bank of England's Functions
On November 7, 2018, HM Treasury laid before Parliament the draft Bank of England (Amendment) (EU Exit) Regulations 2018, together with a draft explanatory memorandum.
The draft Regulations make amendments to the Bank of England Act 1998, the Financial Services Act 2012 and related secondary legislation to ensure that the constitution, responsibilities and functions of the Bank of England continue to be clearly defined after exit day, including in a "no deal" scenario. In the explanatory memorandum accompanying the draft Regulations, HM Treasury confirms that the draft Regulations make only technical changes to existing legislation to ensure that it continues to operate effectively once the U.K. leaves the EU. This includes amendments to information sharing and notification requirements and amendments to certain definitions so that they work in the U.K. after exit day. Amendments to secondary legislation include necessary adjustments to provisions on capital buffers and amounts of cash ratio deposits that certain financial services firms must hold with the BoE
The Regulations will enter into force on exit day (that is, March 29, 2019 in a "no deal" scenario, or at a later date if there is a negotiated EU-U.K. Withdrawal Agreement).
The draft Regulations are available at: https://assets.publishing.service.gov.uk/media/5be2c51140f0b667a46ce02f/Bank_of_England_Amendment_r egs.pdf and the draft explanatory memorandum is available at: https://assets.publishing.service.gov.uk/media/5be2c57440f0b667a46ce030/EM_- _Bank_of_England_amendment_regs.pdf.
Bank of England Provides Further Guidance on Settlement Finality Designation Post-Brexit
On 6 November, 2018, the BoE published the "Dear CEO" letter that it has sent to the Chief Executive Officers of EU CCPs, central securities depositaries and payment systems that are currently designated under the EU Settlement Finality Directive. The designation of these systems is automatically recognized in the U.K. under the SFD framework for automatic recognition, but the U.K. will fall outside the EU framework upon Brexit.
The "Dear CEO" letter follows an earlier letter issued by the BoE in July 2018 and the publication, by HM Treasury, of a draft of the Financial Markets and Insolvency (Amendment and Transitional Provision) (EU Exit) Regulations 2018 on October 31, 2018. The draft Regulations will, once in force, empower the BoE to grant permanent designation to non-U.K. (including EU) systems that are not governed by U.K. law. They also establish a temporary designation regime for EU systems that are currently designated under the SFD.
In the letter, the BoE sets out further details of the permanent designation of non-U.K. systems post-Brexit. It also sets out how EU systems can go about applying to enter the temporary designation regime in a "no deal" scenario (where the U.K. exits the EU without a ratified Withdrawal Agreement) in order to continue to benefit from U.K. SFD protection until the permanent designation process is complete.
Permanent designation of non-UK systems
SFD designation, and the U.K. Settlement Finality Regulations, are currently only available to persons established in the EU where at least part of the system's rulebook is EU law-governed. In the future, U.K. settlement finality protection will in principle be available to any non-U.K. system, regardless of its governing law and wherever its participants are established. Designation of systems by the BoE, and the requirements that designated systems will need to comply with, will be broadly similar to the procedures and requirements currently applying to U.K. law-governed systems, subject to this internationalization.
Details of the application requirements for permanent designation are set out in the U.K. Settlement Finality Regulations, as amended by the draft Regulations.
Systems that will need UK SFD designation post-Brexit
It will not be a U.K. legal requirement for non-U.K. systems to obtain U.K. SFD designation in order to have U.K. participants. However, the BoE expects that EU systems may wish to apply for U.K. SFD designation where they have a participant or participants established in the U.K. or have a U.K.-established indirect participant or participants that fall within the meaning of participants set out in the SFD. This is because designation confers various important carve-outs from U.K. insolvency laws for designated systems that are likely to be of benefit to any system with U.K. participants. However, the regime will not be mandatory.
The temporary designation regime
EU systems wishing to benefit from the temporary regime in the event of a "no deal" scenario must notify the BoE ahead of Brexit. The draft Regulations establishing the regime have been published in draft form but are not yet approved by Parliament. In the letter, the BoE invites EU systems that wish to benefit from the temporary designation regime to indicate their intention to the BoE ahead of the draft Regulations coming into force. The BoE will treat such early notification by EU systems as formal notification under the new Regulations once they enter into force. The BoE stresses in the letter that it cannot treat responses to its previous "Dear CEO" letter in July as such a formal notification.
The temporary regime will allow U.K. settlement finality protection for EU systems for three years following exit day. However, if an EU system wishes to seek permanent designation, it must make an application within the six-month period following exit day.
Existing U.K. designated systems will simply continue to be designated in the U.K. without the need for any more. Such entities will face greater issues in terms of the risks of doing business with EU participants in future, since their U.K. designation would cease to have effect in the EU after Brexit and the EU has no thirdcountry regime in place for SFD purposes.
Non-EU systems that have no present U.K. settlement finality designation and wish to take advantage of the U.K.'s new third-country regime would have to submit a new application for U.K. SFD designation separately but would not be able to use the temporary designation regime.
The "Dear CEO" letter is available at: https://www.bankofengland.co.uk/-/media/boe/files/letter/2018/followup-letter-to-eu-systems-designed-under-the-settlement-finality-directive.pdf, the "Dear CEO" July 2018 letter is available at: https://www.bankofengland.co.uk/-/media/boe/files/letter/2018/letter-to-eu-systemsdesignated-under-the-settlement-finality-directive.pdf, details of the Financial Markets and Insolvency (Amendment and Transitional Provision) (EU Exit) Regulations 2018 are available at: https://finreg.shearman.com/UK-Legislation-Published-to-Preserve-Settlement-F and ESMA's current list of EU systems designated under the SFD is available at: https://www.esma.europa.eu/system/files_force/library/designated_payment_and_securities_settlement_sys tems.pdf.
Brexit Legislation Published Establishing a Temporary Permissions Regime for EEA Firms Passporting into the UK
On November 6, 2018, the EEA Passport Rights (Amendment, etc., and Transitional Provisions) (EU Exit) Regulations 2018 were made on November 6, 2018. The Regulations provide, among other things, for a Temporary Permissions Regime for firms that are currently authorized to carry on a regulated activity in the U.K. under an EEA passporting right that have either applied for U.K. authorization prior to the U.K. withdrawal date or have notified the relevant U.K. regulator of their intention to continue carrying on passported activities. The Regulations come into force on November 7, 2018 except for the following provisions, which come into force on exit day:
- Regulation 2 (Repeal of passport rights, etc);
- Regulation 3 (Consequential amendments);
- Regulation 4 (Saving provision: tax); and
- Regulation 24 (Financial Services Compensation Scheme - modifications of Part 15 of the Financial Services and Markets Act 2000).
The EEA Passport Rights Regulations 2018 are available at: http://www.legislation.gov.uk/uksi/2018/1149/pdfs/uksi_20181149_en.pdf and details of the draft regulations are available at: https://finreg.shearman.com/uk-secondary-legislation-published-for-post-brexi.
EU Supervisory Authority Will Extend Binary Options Ban Into 2019
On November 9, 2018, ESMA announced that it proposes to renew the prohibition on the marketing, distribution or sale of binary options to retail clients for a further three months from January 2, 2019. ESMA's product intervention powers under the Markets in Financial Instruments Regulation allow it to impose temporary prohibitions or restrictions on certain financial instruments, financial activities or practices to address a significant investor protection concern in the EU. ESMA is renewing the prohibition on binary options because it considers that a significant investor protection concern remains. The measure will be renewed on the same terms as the previous renewal decision that has applied from October 2, 2018 and that will expire on January 1, 2019.
ESMA's Board of Supervisors agreed on the renewal of intervention measures on November 7, 2018. ESMA will publish an official notice on its website in the coming weeks. The new Decision will then be published in the Official Journal of the European Union and will start to apply from January 2, 2019 for a period of three months.
ESMA's announcement is available at: ESMA's announcement is available at: https://www.esma.europa.eu/sites/default/files/library/esma71-99- 1057_-_esma_renews_binary_options_prohibition_for_a_further_three_months_from_2_january_2019.pdf and details of the prohibition expiring on January 1, 2019 are available at: https://finreg.shearman.com/EUBan-Relating-to-Binary-Options-Extended.
UK Prudential Regulator Fines Senior Managers for Failing to be Open and Cooperative
On November 7, 2018, the PRA announced that it has imposed financial penalties on two senior managers for failing to be open and cooperative about an enforcement action into the U.K. subsidiary of a Japanese bank by the New York Department of Financial Services in 2014. The PRA's enforcement action follows the financial penalties that it imposed in 2017 on this entity and an affiliate for breaching Fundamental Rules 6 and 7 of the PRA Rulebook in that the firms had (i) failed to communicate relevant information about the settlement with the DFS; and (ii) failed to inform the PRA of the potential implications of the DFS matter for certain senior managers.
The latest fines have been imposed on the former Chair and a former Non-Executive Director for failing to inform the PRA that a senior manager might be restricted from conducting U.S. banking activities as a result of the action by the DFS. The PRA only learnt about the issue after publication of the DFS consent order. This meant that the PRA could not assess the implications or supervise any contingency planning.
The PRA's announcement notes that under the Senior Managers Regime, the current Senior Manager Conduct Rule 4 requires senior managers to disclose appropriately any information of which the PRA or FCA would reasonably expect notice.
The U.S. DFS treats its potential enforcement actions as confidential supervisory information. A firm or individual that wishes to share that information, including with another regulator, must first obtain the permission of the DFS. The DFS will often require a confidentiality agreement from the home country regulator before it allows the disclosure. The result is that firms and individuals can become subject to conflicting requirements.
The PRA's announcement and the final notices are available at: https://www.bankofengland.co.uk/news/2018/november/pra-imposes-financial-penalty-on-akira-kamiyatakami-onodera-for-failure-to-disclose-information, the DFS consent order is available at: https://www.dfs.ny.gov/about/ea/ea141118.pdf and details of the PRA's action against the firm are available at: https://finreg.shearman.com/uk-regulator-takes-enforcement-action-against-fir.
EU Proposals Aim to Avoid Duplicative Information Requirements on Investment Managers
On November 8, 2018, the ESAs launched a consultation on amendments to the Key Information Document for Packaged Retail and Insurance-based Investment Products. Since January 1, 2018, the EU PRIIPs Regulation has required manufacturers of PRIIPs to prepare and publish a stand-alone, standardized Key Information Document for each of their PRIIPs. Those advising retail investors on PRIIPs, or selling PRIIPs to retail investors, must provide retail investors with a KID in good time before the transaction is concluded.
The PRIIPs Regulation exempts until December 31, 2019 management and investment companies and persons advising on or selling Undertakings for Collective Investment in Transferable Securities from the obligation to produce and provide a PRIIPs KID. The UCITS Directive requires these entities to provide investors with a Key Investor Information Document. As a result, if there were no changes made to the EU legislation, UCITS would be subject to duplicative information requirements from January 1, 2020. To address this situation, the ESAs are proposing to amend the RTS under the PRIIPs Regulation by moving the UCITS KIID requirements to the PRIIPs RTS.
The ESAs are also proposing certain other targeted amendments to the PRIIPs KID requirements. These changes include, among other things, requiring PRIIP manufacturers to include information on past performance in the KID, amending the narrative explanations for performance scenarios, requiring the use of the risk-free rate of return instead of historical prices and requiring the presentation of future performance scenarios as a range either in tabular or graphical format.
The consultation closes on December 6, 2018. It is proposed that the amendments will apply from January 1, 2020. To allow time for the EU legislative process to conclude and to provide PRIIP manufacturers and sellers with at least six months to implement the changes, the ESAs intend to submit the final draft RTS to the European Commission for endorsement in January 2019.
The ESAs confirm that the review of the effects of the PRIIPs framework has been delayed by the European Commission so that further evidence and data can be collected to assist the review. It is likely that further amendments to the PRIIPs Regulation will emerge from that more in-depth review.
The consultation paper is available at: https://eiopa.europa.eu/Publications/Consultations/Joint%20Consultation%20Paper%20on%20targeted%20a mendments.pdf.
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