By Ruth Avenell, Senior Principal Consultant at ACA Compliance Group
The Securities Financing Transaction Regulation (“SFTR”, the “Regulation”) came into force in 2016 with the aim of improving transparency in securities financing markets by imposing obligations upon firms engaging in securities financing transactions (“SFTs”) under three broad headings: reporting; investor disclosure; and reuse of collateral. This article is concerned with the “meat” of the SFTR, the reporting requirements which come into force on a staggered basis from 11 April of this year.
What are the reporting requirements?
The SFTR requires that European Union (“EU”) counterparties engaging in SFTs (meaning repos, securities or commodities lending or borrowing, buy-sell back or sell-buy back transactions and margin lending) report these transactions to a registered EU trade repository on a T+1 basis. The reporting framework broadly replicates that of the European Market Infrastructure Regulation (“EMIR”) and, like EMIR, an entity’s reporting obligations are defined according to whether it is a financial counterparty (“FC”) or non-financial counterparty (“NFC”).
Will I be caught?
If you engage in SFTs and you are an FC or NFC, as defined, then you will indeed be caught.
An FC means, inter alia, the following: MiFID investment firm; credit institution; UCITS; and AIF managed by an authorised AIFM.
An NFC is any entity that is not an FC.
If you are outside the EU and would be one of the above if you were based in the EU, and you transact SFTs via an EU branch, then you will also be in scope.
With regard to reporting for AIFs and UCITS, the SFTR specifies that where an AIF or UCITS is counterparty to the SFTs, its AIFM or UCITS ManCo will be responsible for that reporting.
The treatment of non-EU AIFs managed by EU AIFMs remains under discussion. The most recent ESMA guidance suggests that such non-EU AIFS will be in scope, but ACA is aware of on-going industry debate in this area and we comment further below.
I’m caught – what next?
There is still time to prepare (assuming you are reading this article in January 2020!). The reporting obligations kick in for firms on a staggered basis depending on their counterparty classification:
MiFID investment firms and credit institutions will need to report from 11 April 2020;
UCITS and AIFs managed by authorised AIFMs from 11 October 2020; and
NFCs have until 11 January 2021 to start reporting.
If you have not already done so, you will need to decide how you are going to report. You may want to report directly, in which case you will need to onboard with a trade repository (“TR”), or you may prefer to delegate reporting to your counterparty under a delegated reporting agreement (“DRA”), if your counterparties are amenable. As previously mentioned, the reporting framework is akin in many respects to EMIR, which means that:
If you are already subject to EMIR reporting and are delegating, you should be able to piggy back off your existing DRA. This should therefore prompt a discussion with your counterparty to either update the agreement to capture SFTR reporting or put in place a separate but similar DRA.
If you are already self-reporting under EMIR then, helpfully, most of the TRs for EMIR purposes will also be able to act as TR for SFTR reports. Thus, if you are already signed up with a TR, now would be a good time to discuss amending your agreement with them.
Based on the approach taken by firms under EMIR, we expect most firms will go down the DRA route, but, if doing so, firms should be aware that only the “reporting of the details” of SFTs can be delegated, not the responsibility, so oversight and monitoring of delegated reporting will be required, as it has been under EMIR, to make sure that the reporting is complete, correct and taking place as it should be.
What about non-EU AIFMs of EU AIFs?
The requirement for the AIFM to be responsible for the reporting of SFTs undertaken by the AIF does not extend to AIFMs which are not subject to SFTR. Therefore, a US AIFM of an EU AIF, for example, would only have the responsibility for reporting if, under the national private placement regime, a member state requires the AIFM to undertake the reporting.
In practice, the non-EU AIFM will in many cases elect to take on the reporting obligation for that fund anyway – and either report directly to a TR or delegate under a DRA with a counterparty.
What about non-EU AIFs?
Based on the most recent ESMA guidance, a non-EU AIF managed by an EU AIFM is in scope for reporting. Until 6 January 2020, industry consensus was otherwise. The scoping provision under Article 2 of the Regulation appeared to limit its application to entities established in the EU (or transacting SFTs through an EU branch). This prompted broad industry consensus that non-EU AIFs were out of scope and feedback was provided as such to ESMA in consultations regarding the reporting guidelines. However, ESMA appears to have rejected this conclusion in its final report on the guidelines on 6 January 2020, which states as follows:
“ESMA has neither taken on board the feedback by some respondents that non-EU AIFs are not required to report irrespective of the location of the AIFM, as AIFs managed by AIFM registered or authorised under AIFMD are subject to reporting under SFTR.”
This seems fairly clear, but we anticipate further clarification. It is possible that there could be a change of view, but, as it stands, if you are an EU AIFM managing a non-EU AIF that engages in SFTs, you should operate on the basis that you will need to report.
Will Brexit make all this go away?
No. The UK will leave the EU on 31 January 2020 and after that we will enter an implementation period; this is due to end in 31 December 2020 but may be extended beyond that date. During the implementation period, EU law will continue to apply in the UK and new EU legislation that takes effect before the end of the implementation period will also apply to the UK. When the implementation period ends, the application of SFTR will depend on the type of trade deal reached with the EU; initially, we are likely to end up with a “parallel” UK version of SFTR (whereby, for example, UK authorised or registered AIFMs of AIFs that engage in SFTs are required to report to UK TRs). Thereafter, the application of SFTR will depend on the extent to which the UK aligns with EU financial services regulation in any trade deal agreed. Watch this space!
Firms that have not already undertaken an analysis of whether they will be subject to the SFTR reporting requirements should do so now. Firms that have already undertaken that analysis should revisit their conclusions in light of the latest ESMA guidance.
In-scope firms should then consider how they will report, which may involve IT development or conversations with counterparties or TRs. DRAs and service agreements may need to be updated as a result of such discussions.
Last but by no means least, you will need to get to grips with the reporting fields with a view to either directly reporting (and monitoring that reporting) or reviewing and reconciling the reports of your counterparties from April 2020 at the earliest. For firms still facing challenges with the completeness and accuracy of their EMIR reporting, this could be an opportune time to revisit and refresh those arrangements while implementing an SFTR framework
Cryptocurrencies: the new gold?
By Gerald Moser, Chief Market Strategist, Barclays Private Bank
Time to add to a portfolio?
There has been a lot of talk about bitcoin, and cryptocurrencies in general, being a “digital” gold. Similar to gold, there is a finite amount, it is not backed by any sovereign and no single-entity controls its production. But for bitcoin to be considered in a portfolio and to become an investable asset, similar to gold, the asset would need to improve the risk/return profile of that portfolio. This seems a tall order.
While it is nigh on impossible to forecast an expected return for bitcoin, its volatility makes the asset almost “uninvestable” from a portfolio perspective. With spikes in volatility that are multiples of that typically experienced by risk assets such as equities or oil, many would probably throw the cryptocurrency out of any portfolio in a typical mean-variance optimisation.
And while bitcoin’s correlation measures are relatively supportive, it seems to falter when diversification is most needed, such as during sharp downturns in financial markets. Looking at weekly return correlations since 2016 shows that bitcoin is not strongly correlated with any assets (see below). It is however only second to US high yield in its correlation with equities. US Treasuries, gold and US investment grade were better diversifiers than bitcoin when it comes to equities.
Furthermore, looking at global equity corrections since 2015 (see below), it is noticeable that bitcoin has performed even worse than equities over the last three corrections. And while gold and fixed income provided some relief during those corrections, bitcoin compounded the loss that investors would have incurred from equities exposure.
The fact that cryptocurrencies also fluctuate alongside equities suggests that investment in bitcoin is more akin to a bubble phenomenon rather than a rational, long-term investment decision. The performance of the cryptocurrency has been mostly driven by retail investors joining a seemingly unsustainable rally rather than institutional money investing on a long-term basis.
Several studies around market structure have shown that emerging markets with high retail/low institutional participation are more unstable and more likely subject to financial bubbles than mature markets with institutional participation. And while more leading financial houses seem to be taking an interest in cryptocurrencies, the market’s behaviour suggests that the level of institutional involvement is still limited. Another issue is around its concentration: about 2% of bitcoin accounts control 95% of all bitcoins.
In summary, difficulty to forecast return, lack of diversification and high volatility makes it hard to consider bitcoin as a standalone asset in a diversified portfolio for long-term investors.
An inflation hedge?
Another point widely quoted in favour of cryptocurrencies is that they provide an inflation hedge. This might be a valid point, if inflation stems from fiat currency debasement. As mentioned above, a currency’s worth comes from the trust economic agents have in it. If unsustainable amounts of debt and large money creation shatter belief in sovereign-backed currencies through spiralling inflation, cryptocurrencies could be seen as an alternative.
Regardless of its price, bitcoin’s production is set on a precise schedule and cannot be changed. If oil or copper prices go up, there is an incentive to produce more. This is not the case for cryptocurrencies. In a very specific and highly hypothetical scenario of all fiat currency collapsing, this could be positive. But other real assets such as precious metals, inflation-linked bonds or real estate usually provide a hedge against inflation.
Bitcoin’s technology should theoretically make it extremely secure. As there is no intermediary, each transaction is reviewed by a large number of participants which can all certify the transaction. However, there have been frauds and thefts from exchanges. Another point to consider is the risk of “losing” bitcoins. According to the cryptocurrency data firm Chainanalysis, around 20% of the existing 18.5m bitcoins are lost or stranded in wallets, with no mean of being recovered. As there is no intermediary, there is no backup for a lost bitcoin.
From a sustainability point of view, adding cryptocurrencies to a portfolio will make it less green. Mining and exchanging them is highly energy intensive. According to estimates published by Alex de Vries, data scientist at the Dutch Central Bank, the bitcoin mining network possibly consumed as much in 2018 as the electricity consumed by a country like Switzerland. This translates to an average carbon footprint per transaction in the range of 230-360kg of CO2. In comparison, the average carbon footprint of a VISA transaction is 0.4g of CO2.
Beyond energy use, the mining process generates a large amount of electronic waste (e-waste). As mining requires a growing amount of computational power, the study estimates that mining equipment becomes obsolete every 18 months. The study suggests that the bitcoin industry generates an annual amount of e-waste similar to a country like Luxembourg.
Cryptocurrencies are here to stay
Innovation in digital assets continues rapidly and will likely drive increased participation, both from retail and institutional investors. The underlying blockchain technology behind bitcoin was meant to disrupt a few different industries. While results have not lived up to the initial hype, more sectors are investigating the use of the technology.
And with Facebook announcing a stablecoin, or a cryptocurrency pegged to a basket of different fiat currencies, central banks have accelerated the movement towards central bank digital currencies. Those could improve payment systems resilience and facilitate cross-border payments.
Energy stocks drag down FTSE 100, IG Group slides
By Shivani Kumaresan
(Reuters) – London’s FTSE 100 slipped on Thursday, weighed down by falls in energy stocks as oil prices slid after a surprise increase in U.S. crude inventories, while IG Group tumbled on plans to buy U.S. trading platform tastytrade for $1 billion.
The blue-chip FTSE 100 index lost 0.4%, while the domestically focussed mid-cap FTSE 250 index also slid 0.4%.
Energy majors BP and Royal Dutch Shell fell 3.2% and 2.5%, respectively, and were the biggest drags on the FTSE-100 index. [O/R]
“What is holding back the UK is a lack of tech stocks to capture the ‘rotation’ back into tech seen since Netflix results,” said Chris Beauchamp, chief market analyst at IG.
“Stock markets overall are much quieter today, looking so far in vain for a new catalyst for further upside.”
The FTSE 100 shed 14.3% in value last year, its worst performance since a 31% plunge in 2008 and underperforming its European peers by a wide margin, as pandemic-driven lockdowns battered the economy and led to mass layoffs.
British Prime Minister Boris Johnson said it was too early to say when the national coronavirus lockdown in England would end, as daily deaths from COVID-19 reach new highs and hospitals become increasingly stretched.
IG Group tumbled 8.5% after announcing plans to buy tastytrade, venturing into North America after a stellar year for the new breed of retail investment brokerages.
Ibstock jumped 7.3% to the top of the FTSE 250 after the company said fourth-quarter activity benefited from better-than-expected demand for new houses and repairs.
Pets at Home Group Plc rose 2.2% after reporting an 18% jump in third-quarter revenue, boosted by higher demand for its accessories and veterinary services as more people adopted pets during lockdowns.
(Reporting by Shivani Kumaresan in Bengaluru; editing by Uttaresh.V and Mark Potter)
Wall Street bounce, upbeat earnings lift European stocks
By Amal S and Sruthi Shankar
(Reuters) – European stocks rose on Wednesday after Dutch chip equipment maker ASML and Swiss luxury group Richemont gave encouraging earnings updates, while investors hoped for a large U.S. stimulus plan as Joe Biden was sworn in as president.
The pan-European STOXX 600 index closed 0.7% higher, getting an extra boost as Wall Street marked record highs.
All eyes were on Biden’s inauguration as the 46th U.S. President, with traders betting on a bigger pandemic relief plan and higher infrastructure spending under the new administration to boost the pandemic-stricken economy.
Tech stocks rallied to a two-decade peak in Europe after ASML Holding NV rose 3.0% to all-time highs on better-than-expected quarterly sales and a strong order intake for 2021.
Meanwhile, Richemont rose 2.8%, after posting a 5% increase in quarterly sales as Chinese splashed out on Cartier, its flagship jewellery brand.
Britain’s Burberry jumped 3.9% after it stuck to its full-year goals, saying higher full-price sales would boost annual margins, while Asian demand remained strong.
The pair boosted European luxury goods makers that are heavily reliant on China, with LVMH and Kering gaining between 1% and 3%.
“Any sign that retail spending is picking up in China is going to be a boost to the Western markets and those heavily exposed to it,” said Connor Campbell, financial analyst at SpreadEx.
The European Central Bank is set to meet on Thursday. While no policy changes are expected, the bank could face more questions about an increasingly challenging outlook only a month after it unleashed fresh stimulus to bolster the euro zone economy.
“With the new round of easing measures fully in place and no new forecasts to be presented tomorrow, it should be a fairly uneventful day for the euro,” ING analysts said in a note.
Italy’s FTSE MIB gained 0.9% and lenders rose 1.6% after Prime Minister Giuseppe Conte won a confidence vote in the upper house Senate and averted a government collapse.
Conte narrowly secured the vote on Tuesday, allowing him to remain in office after a junior partner quit his coalition last week in the midst of the COVID-19 pandemic.
Daimler AG jumped 4.2% after its Mercedes-Benz brand unveiled a new electric compact SUV, the EQA, as part of plans to take on rival Tesla Inc.
Germany’s Hugo Boss added 4.4% after Mike Ashley-led Frasers said it boosted its stake in the company.
(Reporting by Sruthi Shankar and Amal S in Bengaluru; Editing by Shailesh Kuber and Arun Koyyur and Kirsten Donovan)
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