Post the 2008 financial crisis, the Financial Stability Board (FSB) published a policy framework entitled ‘Strengthening Oversight and Regulation of Shadow Banking’ in 2013 which was approved by G20 that same year. As part of a broader review by of shadow banking, which can be defined as; financing provided other than by a credit institution, the board concluded that although securities financing transactions (SFT’s) are a key source of financing, they were also a key identifier for risk during and after the financial crisis and therefore, there was a need for improved regulation in order to allow the regulators to prevent such risk in the future. In January 2014, the European Commission, focusing on transparency, published a proposal to regulate the reporting of SFT’s and in January 2016, Level 1 of Regulation 2015/2365/EU entered into force (exemption for provisions subject to phased-in implementation).
Generally, securities financing transactions are when securities are used to borrow cash or vice versa and can be defined as the following:
• A repurchase transaction (REPO) or reverse Repo
• A securities or commodities Lending/ Borrowing transaction
• A buy-sell back or sell-buy back transaction
• A margin lending transaction
The focal point of the regulation is to maintain a high level of transparency.
Reporting Requirements Article 4 – Reporting obligation and safeguarding in respect of SFTs – from April 2020
If entering into a new SFT, making a modification or termination to an existing SFT, counterparties must report this on a T+1 basis to a registered Trade depository (TR). Any associated collateral must also be reported to the TR on T+1 or value date dependent on the method of collateral being used. Records of any SFT’s must be kept for a minimum of five years following termination. Delegation of reporting to a third party is also permitted under SFTR.
Disclosure Requirements Articles 13 & 14 – Transparency of collective investment undertakings in periodical reports & pre-contractual documents – Art. 13 from January 2017 & Art. 14 from July 2017.
These articles place obligations on Management Companies and Alternative Investment Fund Managers (AIFM’s) to disclose information to investors on their use of SFT’s. Article 13 requires disclosure in the half-yearly and annual reports where Article 14 requires disclosure of information on SFT’s in the offering documents for the funds they manage.
Reuse Requirements Article 15 – Reuse of financial instruments received under a collateral arrangement – from July 2016
Reuse is defined under SFTR as the use of stock by a collateral taker in its own name and on its own account or the account of an alternative counterparty, of stock received under a collateral arrangement.
Regulate structured reporting of SFTs to enhance transparency across EU capital markets to help eliminate risks associated with shadow banking and essentially reduce financial stability risks.
SFTR applies to the following:
• A counterparty of any SFT that is established in the EU and all subsequent branches of the counterparty, regardless of location.
• A counterparty that is engaged in the re-use of collateral by EU counterparties, including their branches, regardless of location. SFT’s that are reused by third country counterparties, whose transactions are operated by an EU branch or are provided under a collateral arrangement by a counterparty established in the EU, or by an EU branch of that third-country counterparty.
• Trade repositories that need to be authorised.
• Management firms of (UCITS) undertakings for the collective investment in transferable securities and UCITS investment companies.
• Managers of Alternative Investment funds (AIF’s)
Once SFTR is fully in force, firms will have to declare all in-scope instruments to an authorised trade repository in addition to any requirements under the European Markets Infrastructure Regulation (EMIR), Markets in Financial Instruments Directive II (MiFID II) & Markets in Financial Instruments Regulation (MiFIR). The implementation of SFTR will have significant impacts to the whole securities finance industry and how it operates due to the complexity of data requirements and dual-sided reporting. Firms will have to consider additional technology requirements in order to gather and manage all the data required, whether that be in house or via a specialised vendor. Securities lending and other SFT’s require the use of collateral, which can be re-used in other SFT’s and thus SFTR will allow rehypothecation of securities to be more closely monitored. Key additional implementation challenges include:
• Resourcing – Operational/ Technology
• Unique Transaction Identifier (UTI) – UTI’s to be shared between counterparties and match prior to reporting to TR.
• Reporting – Complex XML structure, ISO 20022 messaging standards, tight reporting timelines and high volume of reports
In conclusion, SFTR will ultimately force the industry to become more automated (see ISLA publication CDM) within the post-trade space and provide standardisation across the market.
Publication into the Official Journal
Entry Into Force of Level 1 Text (Excluding Provisions Subject to Phased in Implementation)
Entry Into Force of Transparency Requirements
ESMA Publishes Final Guidelines
Original Reporting Obligation for Credit Institutions and Other Investment Firms (Delayed by COVID-19 Pandemic)
New Reporting Obligation for Credit Institutions and Other Investment Firms, and Reporting Obligation for CCPs & CSDs
Reporting Obligation for Insurance, UCITS, AIFs & Pension Funds
Reporting Obligation for NFCs