The draft definition for a proposed Legal Entity Identifier (LEI) code has this month been passed to Swift as the next stage in its development towards becoming an industry standard. It is also being considered for adoption into the next release of the FIX protocol, and the U.K. Financial Services Authority is considering endorsing it.
The LEI specification is being developed by the Reference Data Users Group’s Entities and Funds Committee, which aims to develop a low-cost solution to the problem of identifying legal entities and underlying funds. The assumption is that existing data structures and identifiers can be combined to create an industry-standard client and counterparty data structure that will increase the efficiency of securities processing.
The lack of a common identifier for regulated entities – currently data is held in a multitude of formats by national regulators and exchanges – means that it is difficult for counterparties to identify the other side’s contracting entity. There is also no commonly agreed identifier for funds managed by these entities, outside of Omgeo’s Alert product, which is not used by all participants. These factors lead to increased operational and credit risk, which RDUG is aiming to address through its LEI code.
The LEI code will be most useful to those in the legal and compliance, processing, and risk operational areas, and addresses a number of issues raised in the recent G30 report, ‘Global Clearing and Settlement, a Plan of Action’.
A discussion paper on the proposed LEI was published at the end of April and circulated to members of RDUG and the Reference Data Coalition (Redac) for their comments. Simon Leighton-Porter of Citibank, who chairs the committee and wrote the discussion document, says, “Essentially, I asked them to try and break the model, and I’m very pleased that that no-one managed to”.
The solution proposed in the discussion document relies on the agreement of industry participants, regulators and vendors to accept a common identifier format based on the logic of the eight-character Bank Identifier Code (BIC) code. The BIC has been chosen over other proprietary formats because of its global usage and compliance with ISO 15022, the committee says.
The LEI will be used to identify a unique regulated entity, or if unregulated, it will identify the fund or organisation to which an order is allocated. RDUG hopes to work with Swift, as well as national regulators and exchanges to ensure that each entity is assigned a unique code. An issuing authority for new identifiers will be appointed, which RDUG also hopes will be Swift. This function would need to ensure that the buy side can request and receive new fund LEIs within 30 minutes.
An additional benefit of the proposed LEI will be the real-time enrichment of Standard Settlement Instructions (SSIs) on confirmation messages, which is currently not possible outside of using a Virtual Matching Utility (VMU). RDUG’s document says, “If all parties to a trade can agree on how to identify themselves to each other and the buy side use the proposed LEI model to identify their funds, there is no longer any need for the industry to use and maintain costly shared account and SSI databases.
“Instead, custodians would send fund managers a periodic update file (in ISO15022-compliant format) of basic SSI details which would be captured in a database within the buyside’s OMS. This would have the advantage of keeping the responsib-ility for SSI maintenance with the custodians but allow fund managers to enrich their allocation messages with up-to-date SSIs.
With their smaller number of SSIs, broker-dealers would maintain their own SSI data with which they would enrich their confirmations. Both sides would match the other’s SSIs for settlement channel compatibility, and if the match is successful, would then instruct for settlement. There would also be a major gain for sell-side firms who would no longer have the maintenance overhead of maintaining multiple SSIs for each client fund.”
Leighton-Porter says that only some minor changes of nomenclature have been made to the draft discussion document in order to clarify, for instance, what is meant by a fund. “We are trying to simplify things by taking a bottom up approach,” says Leighton-Porter. “We stopped at the highest level in the hierarchy at which everyone agrees (at the business/legal entities level). Above that and you are dealing with things that represent different people’s value-added. Where we’ve stopped allows you to do compliance and settlement.”
“What we have now is a set of business requirements, and we have it in the same format as the BIC. Swift will now look at it, and look to see that things like change dissemination are in there,” says Leighton-Porter.
He declines to give a timescale for the next stage in the process, but points out that the LEI is being considered in other areas. “The FSA is studying it and we hope that they’ll endorse it, and it is being proposed for inclusion in FIX 4.4, which needs a way of identifying entities for post-execution messaging.”
In the meantime, RDUG says it needs to perform a return on investment analysis in order to convince industry participants to adopt the solution. The group believes that regulators and exchanges will welcome such a standard but may be reluctant to make the technology investment needed to ensure their databases can handle LEIs.