The European Market Infrastructure Regulation (EMIR) Refit is set to go live in 150 days under the European Securities and Markets Authority (ESMA) guidelines, marking a significant shift in financial market regulation. This regulatory change aims to enhance transparency and risk management in the derivatives market. Concurrently, the UK's Financial Conduct Authority (FCA) aligns with the EMIR Refit, with its go-live date scheduled for 305 days from now. This staggered implementation reflects the coordinated yet distinct approach the two regulatory bodies adopted. The upcoming deadlines underscore the urgency for financial institutions to adapt their systems and processes to comply with the new standards and requirements of the EMIR Refit.
As the Go-live date approaches in under five months, this article aims to briefly outline the imminent changes and highlight critical considerations for compliance readiness. It guides navigating the complexities of the upcoming regulatory shifts, ensuring readers are well-informed and prepared. The content is meticulously crafted to understand the new requirements and their implications comprehensively.
Summary of Key Changes:
1. Regulatory Divergence:
ESMA and the Financial Conduct Authority (FCA) have indicated that their respective EMIR versions should be considered separate reporting regimes. While they align now, there is no guarantee they will align in the future. Reporting systems must accommodate potential divergence between the two, including when one region's EMIR rules are updated, but the others are not.
2. Expansion of Reporting Requirements:
Increased Number of Reportable Fields: The REFIT expands the data fields required in reports from 125 to 203. This increase demands more comprehensive reporting from entities, covering a wider range of transaction details.
Introduction of New Data Elements: New fields like the Event Type and Action Type have been added to provide more granular information about derivative transactions.
3. Adoption of ISO 20022 XML Format for Reporting:
Standardized Reporting Format: Both regimes have transitioned from CSV to ISO 20022 XML format for reporting. This standardization aims to enhance data quality and consistency across reports.
Alignment with Global Standards: This change aligns EU reporting standards with international best practices, facilitating cross-border compliance.
4. Unique Identifiers:
Unique Product Identifier (UPI): The REFIT introduces UPIs for all OTC derivatives, enhancing uniformity in reporting and reducing reconciliation issues.
Unique Trade Identifier (UTI): The REFIT revised the methodology for UTI generation, introducing a waterfall approach to determine the party responsible for generating the UTI.
5. Mandatory Delegated Reporting for Certain NFCs:
Financial Counterparties (FCs) are now required to report OTC derivative contracts on behalf of Non-Financial Counterparties (NFCs) below the clearing threshold, transferring reporting responsibility from certain NFCs to FCs.
6. Data Validation and Reconciliation Enhancements:
Stringent Data Quality Requirements: Trade Repositories (TRs) must adhere to enhanced data validation and reconciliation processes to ensure the accuracy and completeness of reported data.
7. Changes in Valuation and Collateral Reporting:
Detailed Collateral Reporting: Reporting collateral information requirements, including pre- and post-haircut values, are revised to provide more precise insight into risk exposure.
Valuation Reporting: While the reporting requirements for valuation remain unchanged, introducing reconciliation requirements for valuation fields adds a new layer of complexity.
8. Risk Mitigation and Clearing Requirements:
Adjustments for NFCs: The REFIT modifies the clearing thresholds and risk mitigation requirements for NFCs, tailoring obligations to the level of systemic risk they pose.
9. Improved Reconciliation Processes for Trade Repositories:
Reconciliation of Data: TRs must reconcile the details of derivative contracts reported to them, enhancing the reliability of the data held in repositories.
10. Alignment with International Standards and Guidelines:
The REFIT aims to bring EU regulations in line with global guidelines, particularly those developed by the Committee on Payments and Market Infrastructures (CPMI) and the International Organization of Securities Commissions (IOSCO).
11. Phased Implementation:
A transition period allows entities to gradually adapt to the new reporting standards, with different components of the REFIT being implemented over time.
Six-Month Transition Period: There will be a six-month period for updating trades into the latest format. Firms must ensure they have all relevant data for this update and understand their counterparties' intentions regarding the upgrade.
Standard Set of Error Codes and XML Reporting: ESMA will provide a standard set of error codes for response files. The transition to XML reporting (ISO 20022 standard) requires considerations around generating XML files, using converters, and handling different versions of the XML schema from ESMA and the FCA.
Considerations for Compliance Readiness:
Transition to the new ISO 20022 Reporting standard:
The Refit mandates ISO 20022 standard XML schemas for data exchange, increasing the effort required for post-go-live corrections. This standard also applies to inter-Trade Repository reconciliation, signifying a significant shift in data formats.
Historical Trades – For historical trades that are still active or have undergone modifications or terminations, entities must ensure that these are reported accurately and in compliance with the new reporting standards established by EMIR REFIT. This will cause a drain in resourcing for a lot of the firms.
Transition period – ESMA has indicated a six-month transition period to update the trade to the new format. This requires firms to ensure that all the information needed to be reported for historical trades is collected in a timely fashion and made available to report within the six-month transition period. This may require updates/upgrades to processes, systems, and sometimes a client outreach.
Dual reportable trades to ESMA and FCA – For trades reportable to ESMA and FCA, firms must ensure that the data is segregated and maintained as two different jurisdictions for five months.
Expanded Set of Data Elements Imposing Significant Regulatory Pressure:
EMIR Refit has expanded the data elements required from 125 to 203. A lot of the new fields requested would require changes to the processes and systems and, in some cases, would require outreach to the clients.
Unique Transaction Identifier (UTI) – The revised Unique Trade Identifier (UTI) waterfall logic under EMIR Refit introduces a systematic approach to ascertain which participant in a derivative transaction is tasked with generating the UTI. The UTI plays a vital role in globally tracking and overseeing derivative transactions. This logic aims to minimize confusion and inconsistencies in reporting by streamlining the UTI generation process. This modification will likely significantly influence existing methods and agreements among counterparties regarding creating UTIs. Furthermore, there's an expectation for the introduction of additional fields for counterparties. This is particularly relevant when firms are obliged to report historical trades retrospectively. Consequently, organizations may need to update their reporting systems to integrate these new fields, ensuring adherence to the revised norms for reporting past trade data.
Unique Product Identifier (UPI) – Firms will have to ensure that they now have a logic in place that checks if the product has an ISIN in place in cases it is traded on a regulated market, Multilateral Trading Facility (MTF), or an Organized Trading Facility (OTF). It must source the UPI from ANNA DSB using the underlying instrument reference data when it does not have an ISIN. This requires firms to think about their data-sourcing strategies and adds complexities to regulatory reporting.
Increased Detail in Collateral Reporting – EMIR Refit demands more detailed collateral reporting. This includes the types of collateral (such as cash, securities, etc.), the valuation of collateral (both before and after applying haircuts), and the direction of collateral (whether it is received or posted). EMIR Refit also includes requirements for reporting initial and variation margins on a gross basis. This means reporting the collateral posted and received separately rather than netting them off against each other. With the introduction of more detailed reporting, there's an increased emphasis on reconciling collateral data. This means that the data reported by the counterparties to a trade repository needs to be consistent and accurately reflect the collateral arrangements. These changes in collateral reporting requirements will likely impact the risk management practices of firms dealing in derivatives. Firms must ensure their systems and processes can capture and report the additional data required under EMIR Refit.
Changes to Events and Action Types – The "Action Type" field is now expanded to include new types like "Revive" and "Margin Update" while removing "Compression." A new "Event Type" field is added, enhancing the granularity of lifecycle event reporting. These changes aim to provide supervisory authorities with more detailed insights into derivative transactions, increasing the complexity of reporting logic for market participants.
The Way Forward:
The upcoming implementation of EMIR (European Market Infrastructure Regulation) Refit in 2024 is exerting considerable pressure on financial institutions to update and correct historical trade data in compliance with new reporting standards. This significant regulatory shift, which integrates the ISO 20022 standards, introduces new data fields and alters the process for generating Unique Trade Identifiers (UTIs). Consequently, firms must allocate substantial time and resources to align with these changes effectively.
To navigate these complexities, a strategic and proactive approach is essential. This approach should encompass a comprehensive assessment of current reporting practices and gaps in compliance. Firms must prioritize data standardization to ensure alignment with the new ISO 20022 format. This includes adapting data sourcing methods, updating documentation processes, and rigorously testing the new reporting framework to guarantee accuracy and completeness.
Furthermore, extensive staff training is crucial to equip them with the necessary knowledge and skills to handle the revised reporting requirements. This training should cover the nuances of the new data fields, the updated UTI generation process, and the implications of EMIR Refit on trade reporting.
By meticulously undertaking these steps - assessment, data standardization, sourcing adaptation, documentation update, thorough testing, and comprehensive staff training - firms can adeptly manage the historical corrections mandated by EMIR Refit. Such diligent preparation will ensure compliance with the current regulatory changes and position these firms to adapt more seamlessly to future shifts in the regulatory landscape. This strategic approach underscores the importance of staying ahead in the dynamic and evolving world of financial regulation.