Reflections of the CEO

Brexit | Saudi Arabia | Short Selling | ICSF | ESG | SFTR | CSDR | UMR

It is hard to believe that we are nearing only the end of February, as 2020 already feels very different to any year that has gone before. As the world remains fixated on a virus that only a few weeks ago had never been seen, Brexit and the often acrimonious debates that divided much of the UK, seem a distant memory.

For those of us who have more than a passing interest in what happens next in the UK/EU trade negotiations however, will have seen the opening positions adopted by both sides earlier this week. Although other sectors such as agriculture and fisheries attract greater media attention, the importance of financial services to the UK economy and the wider European financial markets should not be underestimated. I have said before that what eventually happens to securities lending is to an extent out of our hands, as we will take our lead from the broader discussions around asset management, securities services and trading books. We will of course follow this emerging debate with great interest, and work with member firms and other stakeholders alike as the post-Brexit landscape becomes clearer.

The past two weeks have seen ISLA engage across a range of very diverse and varied issues. Having been with the Association for some six years, one of our greatest strengths that I have remarked but also fostered, is our ability to operate at different levels of detail or focus, in order to make us more effective and relevant. On 20 February, ISLA submitted a formal response to the latest consultation issued by Tadawul (Saudi Stock Exchange) and EDAA (Securities Depository Centre Company) as part of their work to establish a fully-functioning capital markets infrastructure within the Kingdom. Whilst it is not the remit of this post to repeat our line-by-line responses, the broad themes that we played into were primarily around how international investors can actively and efficiently deploy short selling techniques in the developing local markets, as well as the commitments needed from local regulators to facilitate securities lending to support short selling and market making activities. Whilst the location as well as some of the specific operational questions are different, the provision of market liquidity to support efficient price discovery, timely market making, short selling techniques and negating fails, is almost identical to every market that ISLA is active in. As a G20 economy, we believe these initiatives in Saudi Arabia are a vital part of the broader development of the capital markets eco-system across the region, and we are fully committed to supporting this work.

To an extent, some of our work in the Middle East may be considered as the solicitation and transference of market best practice, including master agreement standards. Conversely, the work that we have done in collaboration with the newly-formed ISLA Council for Sustainable Finance (ICSF), is moving to a very different rhythm. The ESG, or sustainable finance agenda will define much of asset management during the 2020s, as investors demand very different outcomes from their fund managers. Our markets are intrinsically linked to this debate, with issues such as governance and short selling at the very heart. The role that securities lending can play as an enabler to support effective price discovery, market liquidity and short selling techniques cannot simply be dismissed as old legacy techniques that do not apply here. It is no surprise that these challenges are no different to those seen elsewhere, as all markets embrace capital markets techniques. Quite simply same issues, different perspectives. ESG strategies however do warrant further attention, as some feel that activities such as short selling are not compatible with long term investment planning. Obviously, we would not agree with that view, and by using the investor-led ICSF, we aim to produce a series of realistic and pragmatic outcomes that allow securities lending to coalesce around ESG strategies. These outcomes will be built around a series of Principles for Sustainable Securities Lending (PSSL), whose remit is to have a strong and clear impact on the social, governance and long-term thinking elements of sustainable securities lending.

Earlier this week, I attended a meeting held at the Bank of England (BoE) to discuss the Money Market Code three years since its launch. Under the guidance of the BoE, a small group of market participants will begin work on updating those aspects of the code that cover securities lending, repo and unsecured money market operations.  At that initial meeting, I was struck by how much has changed since the code was launched back in 2017. To remain relevant in today’s markets, it has to reflect issues such as ESG, transparency, diversity and inclusion, as well as benchmark reforms that have come to the fore since its inception.

This week also saw the latest quarterly meeting of the BoE Securities Lending Committee (SLC). As part of the bank’s overall supervisory efforts, the SLC periodically meets to consider the key drivers that are shaping the markets today, as well as those factors and influences that will potentially change behaviour over time. Not unsurprisingly, the meeting spent considerable time thinking about the ramifications of the imminent implementation of SFTR and CSDR, and where CSDR in particular could interrupt trading liquidity and the efficient functioning of markets. The second area of focus, was  once again, sustainability and the ESG agenda. The recent launch of the ICSF was noted by the group, and provided a springboard for considerable discussion. Whilst many of the key themes around collateral, short selling and governance were discussed, much of the focus was on one central issue, liquidity. As the meeting concluded, it was encouraging from the perspective of ISLA and our members that the Bank is actively promoting these industry changing discussions, where the SLC has a critical role in both socialising and fostering the debate.

At the same time as the SLC meeting, Tina Baker and Farrah Mahmood were in attendance at this year’s JP Morgan Agency Lending and Financing Forum.  Now a regular fixture amongst key industry events, I was intrigued to hear what was discussed during the afternoon of panels and presentations. Not unexpectedly, compliance with phases 5 and 6 of the Uncleared Margin Rules in 2020 and 2021 for given buy-side firms, was a prominent feature of the discussions, and identified as the biggest challenge for the industry.  Although there was talk about possible delays of the final phase due to the scale of firms ‘in scope’, this legislation will undoubtedly force asset managers to become more efficient.  Where there is a challenge, there is always an opportunity however, and it was interesting to hear that the role of tri-party agents for the buy-side will become a more prominent feature of their business, and that SFTs themselves are set to become an asset class.  It was also encouraging to hear the positive rhetoric around the implementations of SFTR and CSDR, as both borrowers and lenders clearly see benefits from the increased transparency and data to develop future strategies around securities lending, as well as open up the debate around common data standards and models.

In closing, I wanted to highlight two detail-orientated initiatives that we have been working on.

As part of the reporting obligations under Article 4 of the SFTR, the provision of Legal Entity Identifiers (LEIs) at both the counterparty and issuer level is mandatory. As part of our advocacy work with ESMA, we have argued for some time that the provision of certain LEIs was out of the hands of market participants, especially where the issuer was outside of the immediate reach of the EU or ESMA. As part of the final standards, some relief has been given with a one year extension where non-EU issuers are involved. Whilst this is a welcome respite, the problem has not gone away but simply moved out. Consequently, ISLA has been working hard with other associations and interested groups to better understand the problem, and identify concrete steps to address it. We have actively collected lists of relevant LEIs from our member firms, and on an anonymised basis these lists have been circulated to LEI issuers, also referred to as ‘Local Operating Units’ (LOUs) via GLEIF. By going to the source of the problem, we hope to engender a proactive resolution to this important issue.

Finally, this week saw the publication of an updated version of our SFTR Report Modeller. The modeller, last published on Wednesday 27 November 2019, has been modified to include all of the latest changes to the RTS released by ESMA in January 2020, and supports all reportable products under our governance.  I want to thank our in-house SFTR team for taking the time to incorporate the feedback and requests of our members in this latest release.  Look out for further announcements regarding the release of ISLA’s work on guidance and best practice on SFTR compliance in due course.

Andrew Dyson, CEO

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