ESMA Laws Will be Applicable During the Brexit Transition Period
On January 31, 2020, the UK formally adopted the withdrawal agreement and officially left the European Union. The nation will be going through a transition period till December 31, 2020. During this time, the terms of the exit deal are to be drawn up. This will include many key aspects, such as immigration laws, agriculture, fisheries and, most of all, the extent to which the UK will be allowed to enjoy access to the single EU market.
The European Securities and Markets Authority (ESMA) published a statement on February 1, 2020, to clarify issues related to the reporting obligations of UK firms during the transition period. According to this statement:
- As of February 1, 2020, the UK Financial Conduct Authority (FCA) will have ceased to be a member of ESMA’s Board of Supervisors or stop participating in any of the other governance bodies of the ESMA.
- By virtue of the Withdrawal Agreement, EU law will continue to apply to the UK, just as if it was a member state. This means that UK-based financial firms will continue to adhere to the rights and obligations under the ESMA, such as the MiFIDII/MiFIR, EMIR, CSDR, AIFMD, MMFR.
- The ESMA will also continue to supervise all registered UK credit rating agencies, trade repositories and securitisation repositories, established during the transition period in the country.
Background on the Laws
EU laws will continue to apply for UK firms during the implementation period. Passporting between the EU and the EEA will continue to benefit firms and funds. Consumer rights and protections provided under EU law will also stay in place. Here’s a look at some of these laws.
MiFID II /MiFIR
The Markets in Financial Instruments Directive (MiFID) (2004/39/EC) has been applicable across EU states since November 2007. On January 3, 2018, MiFID II came into effect, as legislative framework to enhance investor protection and make the financial markets more transparent, resilient and efficient. It brought new reporting requirements and tests to increase the amount of information available to investors and to reduce the use of dark pools and OTC trading. Some laws pertaining to the retail forex market under MiFID II include:
- Firms offering forex CFDs and other products via online trading platforms had to provide clear, transparent and consistent information about these products and risks associated across all their communication channels in downloadable formats.
- Mandatory disclosure of risks, indicating the risks of multiplying losses has to be included on all platforms, in clear language, without the use of jargon.
- Reduction of leverage limits for forex CFDs in major and minor currency pairs.
- Removal of trading bonuses offered by brokers to clients, as incentive to start trading risky products.
- Registration of algorithms used for automated trading.
- Negative balance protection measures.
The European Market Infrastructure Regulation (EMIR), launched in August 2012, aimed to increase transparency and reduce risk by introducing new obligations for derivatives trading firms. These obligations include:
- Mandatory centralised clearing of all standardised OTC derivatives
- Risk mitigation techniques for all non-centrally cleared derivatives
- EMIR reporting of all derivatives contracts
Central Securities Depositories Regulation (CSDR)
The European Central Securities Depositories Regulation (CSDR) was one of the key regulations that came into effect after the 2008 financial crisis. Its objective was to increase the safety and efficiency of securities settlement and settlement infrastructure in the EU, and to establish a transparent and level playing field for all European Central Securities Depositories (CSDs).
All CSDs need to apply for a license to operate, which can be fulfilled, based on several criteria, such as capital and transparency requirements. The law applies to all CSDs in the EU, along with those in Iceland, Liechtenstein and Norway. Apart from licensing and reporting requirements, the CSDR had an impact on the trading venues and operations of financial market infrastructure. Penalty fees were introduced for failing transactions and so forced mandatory buy-ins, within a certain time period after the settlement date.
Alternative Investment Fund Managers Directive (AIFMD)
The Alternative Investment Fund Managers Directive applies to EU-based hedge funds, private equity funds and real-estate funds. The funds that fall under AIFMD were previously outside the jurisdiction of EU financial regulatory frameworks like the MiFID. This is also one of the frameworks adopted by the EU after the 2008 crisis, to enhance investor protection and risk management.
The AIFMD sets standards around risk monitoring and reporting, raising capital from private sources, remuneration policies and overall accountability. There are two main objectives built into the AIFMD:
- By protecting investors through the introduction of strict compliance regarding what information is disclosed and through what channels. This includes liquidity assessment reports, independent asset valuation reports and conflicts of interests.
- Alternative investment funds (AIF) are mandated for professional investors only, but some states may choose to provide them to retail customers, as long as appropriate risk management techniques are applied on a national level.
ESMA’s Strong Governance Principles
The ESMA’s mission is to enhance investor protection and promote stable financial markets. Its objectives revolve around 4 main activities:
- Completing a single rulebook for financial markets across the entire EU
- Identifying risks to investors, markets and financial stability
- Promoting supervisory convergence
- Direct supervision of specific financial entities.
ESMA’s 2020 Work Programme has also been constructed around these 4 principles, apart from the development of the new EMIR 2.2 framework. The new EMIR 2.2 framework changes how CCPs are registered and regulated in the EU. This includes the introduction of the CCP Supervisory Committee. Tier 2 CCPs will be continuously assessed and their impact on the EU markets will be closely monitored. The ESMA will create Regulatory Technical Standards (RTS) and Implementing Technical Standards (ITS) for the promotion and use of SME growth markets.
In the coming months, the ESMA will continue to monitor the application of EU laws to UK firms. It will advise the European Commission on the adoption of equivalence decisions on the UK. Regular communications with companies, market participants and stakeholders will be conducted, till the end of the transition period.