The recent joint response by the UK Financial Services Authority (FSA) and the UK Treasury to the European Commission’s MiFID proposals indicates that the regulators are concerned that a “one size fits all” approach towards data standards may be applied to non-equity instruments, as the directive is expanded beyond equities. The response, which comes in at a weighty 109 pages, also highlights the FSA’s support for a consolidated tape provided by a number of vendors, rather than a government run utility approach, indicates that transaction reporting should not be applied to all instruments and cautions about the adoption of ISO standards for trade reporting.
The FSA and the Treasury’s response demonstrates their support for the goals of greater standardisation and transparency with regards to post-trade data in Europe. The response therefore notes that standardisation of how individual data fields should be populated would “clearly be beneficial to the markets”. However, it also states that “poorly calibrated” transparency regimes can have damaging and unintended consequences, indicating that the Commission should be particularly cautious about less liquid markets, such as certain bonds and derivatives.
The regulators are quick to stress that not all securities and markets would benefit equally from the same mandatory degree of transparency. “The Commission rightly recognises that the MiFID transparency regime for non-equities should be tailored by asset class, not just copied out from the equities regime,” states the response.
“Taking a one size fits all approach within one asset class is likely to damage liquidity for individual instruments and this would run counter to the Commission’s stated aim of the review, namely to improve market efficiency and liquidity. Critical in this context will be the delay in publication permitted for large trades in less liquid instruments. The less liquid an instrument, the more its liquidity providers will be dependent on a significant delay in publication,” is continues.
More thought therefore needs to go into the characteristics of these particular asset classes and how transparency requirements and standardisation could affect the market as a whole. The response indicates that liquidity should be the key metric under consideration, which is determined by: trade size; frequency of trading; and frequency of bids and offers displayed.
However, the regulators are in support of the technical advice provided by the Committee of European Securities Regulators (CESR – before it morphed into the European Securities and Markets Authority) to the European Commission on the subject of new codes for OTC trade reporting). The aim of the new codes is to provide transparency over which trades are for administrative purposes and which are commercial. The FSA therefore supports the introduction of the following codes: ‘B’ benchmark trade flag OTC; ‘X’ agency cross trade flag OTC; ‘G’ give-up/give-in trade flag OTC; ‘E’ ex/cum dividend trade flag OTC; and ‘T’ technical trade flag OTC.
The response also notes: “The UK recommends the use of a unique transaction identifier along with a unique code identifying the publication arrangement to help reconcile cancellations and amendments with the original trade reports and to facilitate the consolidation of the data. Cancellations and amendments should be published with a ‘C’ or ‘A’ flag together with the unique transaction identifier of the original transaction as soon as possible and no later than one minute after the decision to cancel or amend is made.”
All of this work will also be supported by the introduction of a number of consolidated tape providers, which the FSA and Treasury indicate “should promote competition and ultimately lead to benefits for end users”. Competition would therefore ensure the quality of the data and keep the costs down to a “reasonable” level, according to the regulators’ logic. This approach, however, is a different track from a number of other regulators and industry participants who have been pushing for one consolidated tape across Europe. In their defence of the commercial proposition, the FSA and the Treasury point to the failure of the US utility model in terms of “functionality” and “speed”, whereas a commercial proposition could be in place within a year.
The regulators also believe the introduction of a consolidated tape will be enabled via the establishment of approved publication arrangements (APAs), which will, in turn, require the setting of basic standards in order to prevent the publication of incorrect or incomplete data. “Prescribed standards will set the framework needed to ensure that the APA regime is robust and allow trade information submitted by investment firms to be subject to monitoring and checking for accuracy,” it states.
In terms of standard setting, the regulators indicate that the introduction of ISO standards for trade reporting may prove particularly problematic for the UK market and those that trade Sterling denominated shares. This is because the ISO currency unit standard is to use the major currency unit (British pounds) whereas the current market practice for UK securities is usually to use the minor currency unit (pence). “The UK would therefore encourage the Commission to produce a robust cost-benefit analysis that takes into account the benefits of standardisation against the cost of system changes for market participants trading in Sterling denominated securities,” states the response.
It also highlights the need for a cautious approach when setting data standards within the non-equity markets, especially for commodities. As notes recently during the London MiFID Transaction Reporting Group meeting, the extension of new identifiers to OTC markets could require lengthy and expensive projects being kicked off within firms and regulators in order to enable these parties to be able to store and report these (as yet undetermined) identifiers.
Turning to transaction reporting, the regulators also espouse caution around the extension of these reports to all instruments, noting that they should only be included when it is clear that such information will be useful in combating market abuse. The extension to trades on multilateral trading facilities (MTFs) is logical therefore, but these MTFs should only be situated in the EEA, states the response. It defends this position by stating: “Competent authorities would have difficulties in getting the relevant reference data from overseas trading platforms as these have no regulatory obligation to provide this information to EEA regulators.”
Likewise, the response states that the extension should include OTC derivatives whose value is “dependent” on a financial instrument admitted to trading in a regulated market or an MTF, but not to all OTC derivatives.
On the subject of client identifiers, the response defers to ESMA to provide greater clarity and coordination on the subject via “binding technical standards”. This is reflective of the approach demonstrated by the FSA speakers at the recent transaction reporting meeting, who indicated that it is up to the industry to provide direct feedback to the Commission and ESMA on this subject.