Financial Services SpeedRead: 13 October 2020

1.  PRA and FCA publishes Dear CEO / Branch Manager Letter on final preparations for the end of the transition period

On 9 October 2020, the PRA and FCA published a Dear CEO / Branch Manager Letter reminding firms that they need to be prepared for a range of potential outcomes at the end of the implementation period.

Although UK authorities have made extensive preparations over the last few months to mitigate most risks to UK financial stability that could arise from a disruption to the provision of cross-border financial services (as noted by the Financial Policy Committee in its statement on 8 October 2020), for example should equivalence not be granted, or access to financial markets not be agreed in another way by IP completion day, market stability (which is different to financial stability) could still be disrupted, and therefore market volatility could arise.
Given this, it is important that firms continue to prepare for Brexit and engage with clients and customers to minimise disruption. The Dear CEO letter states in a number of places that firms should continue to facilitate the continuity of existing businesses and contracts, where necessary.

2. FCA publishes updated Handbook and updated draft transitional directions

On 1 October 2020, the FCA published an updated version of the FCA Handbook to show the rules that will apply post-IP completion day, along with a guide on how to navigate the updated FCA Handbook website.

Updated details have also been provided as to how the FCA intends to use the temporary transitional power (TTP). Specifically, the FCA has confirmed it intends to apply the TTP on a "broad basis", from the end of the transition period (IP completion day) to 31 March 2022, meaning that firms and other regulated persons do not generally need to prepare now to meet the changes to their UK regulatory obligations brought about by onshoring. However, the FCA does expect firms and other regulated persons to be ready to comply with changed obligations from IP completion day in respect of the following areas:

• MiFID II transaction reporting;
• EMIR and SFTR reporting obligations;
• certain requirements under the Market Abuse Regulation (MAR);
• issuer rules;
• contractual recognition of bail-in;
• Client Assets Sourcebook requirements;
• market-making exemption under the Short Selling Regulation;
• use of credit ratings for regulatory purposes;
•  securitisation;
• electronic commerce EEA firms;
• mortgage lending after the transition period against land in the EEA; and
• payment services – strong customer authentication and secure communication.

Firms are again reminded about the importance of adequate preparation with respect to onshoring, as, in respect of the key requirements listed above, the FCA indicates that regulatory enforcement action may be taken against firms for failing to meet the requirements straight away, unless the firm can evidence that it has taken "reasonable steps" to prepare to meet the new obligations by 31 December 2020.

The FCA also published updated versions of its draft transitional directions (comprising the main FCA transitional direction, revised versions of Annexes A and B, and the FCA prudential transitional direction). The FCA proposes to make the final TTP directions towards the end of the Brexit transition period, and expects to publish them in December 2020.

3. Equivalence Determinations for Financial Services (Amendment etc.) (EU Exit) Regulations 2020

On 30 September 2020, the Equivalence Determinations for Financial Services (Amendment etc.) (EU Exit) Regulations 2020 were published along with an explanatory memorandum. The regulations came into force on 30 September 2020 and relate to the UK's future regime for equivalence, adding to the draft Financial Services (Miscellaneous Amendments) (EU Exit) Regulations 2020, which were published in May 2020. Among other things, the regulations:

• give the FCA and BoE powers to establish "co-operation arrangements" with EEA regulators, before IP completion day, where HM Treasury grants an EEA state equivalent status; and
• allow UK regulators to accept applications from EEA financial service providers and make "regulatory decisions" as set out in Schedule 3 of the Regulations, including for example the FCA deciding to include an EEA benchmark on its register, certifying an EEA credit rating agency, granting recognition to an EEA trade repository etc. before IP completion day.

4. FCA reopens temporary permissions regime notification process

On 30 September 2020, the FCA reopened its temporary permissions regime (TPR) notification process and accordingly updated its TPR webpage.

Firms that have already submitted their TPR do not need to take further action. Firms which have not submitted their TPR notification can submit via the FCA Connect system before the end of 30 December 2020.

Fund managers can also now submit their TPR notifications via the FCA Connec system before the end of 30 December 2020. Fund managers that want to update a previously submitted notification should email the FCA at recognisedcis@fca.org.uk by the end of 9 December 2020, and should be able to submit their updated notifications which includes all the correct funds from 14 December 2020.

5. ESMA publishes draft rules for third country firms under MIFIR and MIFID II

On 28 September 2020, ESMA published its final report containing draft regulatory standards and implementing technical standards on the provision of investment services and activities in the EU by third country firms under MiFIR and MiFID II. The new draft standards follow changes to MiFIR and MiFID II introduced by the Investment Firms Regulation (EU) No 2019/2033 (IFR) and Directive (EU) 2019/2034 (IFD), and sets out the information which third country "equivalent" firms must report to ESMA on an annual basis, and permits ESMA to ask third country firms to provide data relating to all orders and transactions in the EU. New annual reporting requirements from branches of third country firms to national competent authorities are also included.

6. ESMA announces recognition of three UK CCPs from 1 January 2021

On 28 September 2020, ESMA announced that three central counterparties (CCPs) established in the UK – ICE Clear Europe Limited, LCH Limited, and LME Clear Limited – will be recognised as third country CCPs from 1 January 2021. As such, these entities will be eligible to provide their services in the EU after IP completion day. In a separate announcement, the BoE welcomed ESMA's recognition decisions and indicated that it has agreed an updated Memoranda of Understanding with ESMA regarding cooperation and information-sharing with respect to CCPs.

Financial Markets

7. FCA publishes Dear CEO letter to firms holding client assets

On 30 September 2020, the FCA published a Dear CEO Letter reminding firms of the requirement to have in place adequate arrangements to protect client assets, and stressing the importance of this during the COVID-19 environment. The FCA is clearly focussed on client money and asset obligations, as this Dear CEO Letter follows two letters, one published on 24 July 2020 in respect of inappropriate use of title transfer collateral arrangements, and one published on 12 August 2020 in respect of non-discretionary investment manager's client money obligations when rebalancing client portfolios.

In the September letter the FCA states that it expects senior management, including the Board or equivalent governing bodies, to have oversight of a swathe of client money and asset obligations, including the firm's client assets arrangement, third party custody and outsourcing arrangements, appointed representative activities and client money which arises from these activities, due diligence of third parties holding client money / assets, records and reconciliations, client money held by intermediate brokers in a client transaction account, acknowledgment letters for client money accounts, and CASS Resolution packs.

8. ESMA publishes draft regulatory technical standards under the Benchmarks Regulations

On 29 September 2020, ESMA published a report containing draft regulatory standards under the Benchmarks Regulation setting out the behaviours and standards expected of administrators. The draft standards include provisions:

• ensuring that the governance arrangements of administrators are sufficiently robust;
• aimed at minimising the potential for manipulation of benchmarks, through additional rules regarding the methodology of calculation and controls; and
• implementing common criteria for the assessment of the mandatory administration of critical benchmarks and the compliance statement for non-significant benchmarks.

9. ESMA publishes Consultation Paper on the functioning of OTFs 

On 25 September 2020, ESMA published a consultation paper on the functioning of OTFs under MiFID II. The paper contains an analysis of trading on OTFs, the definition of an OTF, the boundaries of trading venues' authorisation and OTFs' use of discretion, and sets out a number of proposals, including:

• amending Articles 1(7) and 4(19) of MiFID II to clarify the conditions under which a facility is required to seek authorisation as a trading venue;
• not amending the OTF authorisation regime, and not exempting smaller entities; and
• clarifying how software providers and bulletin boards should be categorised.

The consultation closes on 25 November 2020, with a final report expected from ESMA by March 2021.

10. Proposed amendments to the MIFIR transparency regime for non-equity financial instruments

On 25 September 2020, ESMA published a report on the MiFID II/MiFIR transparency regime applicable to non-equity financial instruments. The report follows a consultation, from which ESMA concluded that the regime was too complicated and not always effective in ensuring transparency for market participants. The report makes several recommendations, including:

•  deleting the specific waiver and deferral for respectively orders and transactions above the "size-specific to the instrument" threshold;
• streamlining the deferral regime with both a simplified system based on volume masking and full publication after two weeks as well as removing the supplementary deferral options left to national competent authorities;
• transforming the possibility granted to national competent authorities to temporarily suspend MiFIR transparency provisions into a mechanism coordinated at EU-level;
•  including the possibility to suspend on short notice the application of the derivative trading obligation similarly to the mechanism available in EMIR; and
• complementing the criteria used to grant equivalence to third-country trading venues for the purpose of the derivative trading obligation with conditions relating to transparency and non-discriminatory access.

11. ESMA consults on MiFID reference data and transaction reporting

On 24 September 2020, launched its consultation paper reviewing investment firms' transaction reporting requirements and financial instrument reference data. The report will be of interest to EEA-based firms, as well as UK firms (as the FCA is likely to pay attention to ESMA's proposals in this space).

ESMA is considering the following changes (amongst others):

• extending transaction reporting obligations to AIFMS and UCITS managers;
• extending the concept of traded on a trading venue to instruments that are exclusively traded through SI systems. These instruments would be considered OTC currently;
• introducing a new trading code (similar to the complex code ID) which enables the identification of the market legs that fill the client legs when grouping orders. For instance, three market side fills, allocated to four clients would be joined using this new trading code;
• introducing a new requirement to include the client's categorisation on transaction reports;
• removing the short selling indicator;
• SIs to send daily reference data on derivatives executed by the SI regardless of whether the instruments are reported by a trading venue;
• transaction reports to take into account waivers for non-equity SI transactions;
• requiring trading venues to transaction report for entities that are not subject to MiFIR (i.e. third country firms);

• clarifying that EEA firms with branches should report transactions executed from these branches to their home member state rather than the host member state of the branch; and

• enshrine requirement for an issuer to have an LEI in the Level 1 text.

The consultation closes on 20 November 2020.

See: Ashurst briefing on ESMA consultation on MiFID reference data and transaction reporting

12. ESMA publishes outcomes of MAR review

On 24 September 2020, ESMA published a review of MAR, following an earlier consultation conducted in 2019. The report concludes that, overall, MAR has worked well in practice and is fit for purpose, with recommendations focusing on specific amendments and clarifications rather than a complete overhaul of the regime.

In the report, ESMA makes several recommendations for targeted amendments to MAR:

• Market soundings: Amendments proposed to make it clearer that the requirements represent an obligation for market participants carrying out a market sounding, and that when they do so in compliance with the rules they will be protected from the allegation of having unlawfully disclosed inside information;
• Benchmark provisions and the and the interplay between MAR and collective investment undertakings: Amendments proposed to clarify the responsibility of management companies in relation to the disclosure of inside information; and
• Withholding tax reclaim schemes: Amendments proposed to remove the legal limitations for national competent authorities to exchange information with tax authorities.

In relation to spot FX contracts, ESMA concludes there is a regulatory gap under the EU market abuse regime with respect to spot FX contracts and that it is appropriate to perform further analysis once the revision of the FX Global Code has been finalised.

ESMA also suggests that additional guidance be provided in relation to:

• Inside information and disclosure: Further guidance will be issued by ESMA with respect to the application of the definition of 'inside information' and specific scenarios concerning delayed disclosure;

• Pre-hedging: The report identifies factors which may be considered when assessing if pre-hedging conduct poses risks of market abuse, with ESMA indicating that it may assess pre-hedging further in the future.

The review is submitted to the European Council and ESMA will provide further technical assistance to development the legislative amendments suggested in the review.

AML / CTF and financial crime

13. Cayman Islands and Oman removed from, and Anguilla and Barbados added to, the EU non-cooperative tax jurisdiction list

On 6 October 2020, the European Council announced that it decided to remove the Cayman Islands and Oman from the EU non-cooperative tax jurisdiction list after having passed the necessary reform to improve their tax policy framework, and decided to add Anguilla and Barbados to the same list. This may have indirect impact on firms' AML and financial crime risk assessments.

Payments

14. EU Commission publishes Retail Payments Strategy communication, as part of larger package of digital reforms

On 24 September 2020, the EU Commission published as part of its "Digital Finance Package" a Communication on the Retail Payments Strategy for the EU. The Communication contains an ambitious four year plan to help improve innovation in the payments sector, and improve PSP and consumer uptake of such innovations.

The Commission divides its strategy into four interlinked pillars: (1) implementing pan-European digital and instant payment solutions. The Commission is very focussed on this, with almost half the communication focussed on the Pillar 1 strategy alone; (2) fostering innovation and competition in retail payments markets; (3) increasing interoperability of retail payment systems; and (4) supporting international payments, particularly money remittance services.

See: Ashurst briefing on the Retail Payments Strategy Communication

FinTech

15. FCA bans the sale of crypto-derivatives to retail consumers

On 6 October 2020, the FCA published final rules banning the sale, marketing and distribution to retail clients of derivatives and exchange traded notes that reference types of unregulated, transferable crypto-assets. The restrictions apply to derivatives, including CFDs, futures and options (but exclude crypto-commodities and central bank digital currencies). The move follows a consultation paper published in July 2019, which argued that retail customers were unable to accurately price crypto-assets and the derivatives referencing them. The ban will come into force on 6 January 2021.

16. EU Commission publishes Digital Finance Strategy communication, as part of larger package of digital reforms

On 24 September 2020, the EU Commission published as part of its "Digital Finance Package" a Communication on the Digital Finance Strategy for the EU. The Commission considers that the future of finance is digital and sets out four priorities in its Communication:

• Europe and its financial sector must embrace trends and all the opportunities offered by the digital revolution;
• Europe must drive digital finance with strong European market players in the lead;
• Europe's aim is to make the benefits of digital finance, available to European consumers and businesses; and
• Europe should promote digital finance based on European values and a sound regulation of risks.

See: Ashurst briefing on the Digital Finance Strategy Communication.

17. EU Commission tables proposed regulation on crypto-assets, as part of larger package of digital reform

On 24 September 2020, the EU Commission published as part of its "Digital Finance Package" draft regulations for the regulation of activities relating to the issuance of crypto-assets and provision of services related to crypto-assets in the EU. The proposed regulations would not cover the crypto-assets that qualify as financial instruments, deposits or structured deposits under EU financial services legislation. Key provisions of the draft regulations include:

• provisions on authorisation and operating conditions of crypto-asset service providers (e.g. a physical presence in the EU) and a mandate for ESMA to establish a register of all crypto-asset service providers;
• introducing a EU passport for crypto-asset service providers;
• requirements on all crypto-asset service providers, such as the obligation to act honestly, fairly and professionally;
• requiring issuers of crypto-assets to produce a white paper when making a public offer of crypto-assets in the EU/ seeking admission of crypto-assets to trading on a trading platform;
• providing that the white paper would contain mandatory disclosures and include general information on the issuer, on the project to be carried out with the capital raised; and
• preventing issuers of e-money tokens and crypto-asset service providers from granting any interest to holders of e-money tokens.

See: Ashurst briefing on Europe's proposals for regulating crypto-assets

18. EU Commission publishes proposed regulation on digital operational resilience, as part of larger package of digital reforms

On 24 September 2020, the EU Commission published as part of its "Digital Finance Package" draft text for the Digital Operational Resilience Act (DORA). DORA is designed to consolidate and upgrade ICT risk requirements throughout the financial sector, encourage mutual recognition of advanced digital operational resilience testing results for entities operating cross-border, and harmonise ICT-related incident reporting.

See: Ashurst briefing on EU Commission papers on digital finance

19. EU Commission publishes proposed regulation on pilot regime for market infrastructures based on distributed ledger technology, as part of larger package of digital reforms

On 24 September 2020, the EU Commission published as part of its "Digital Finance Package" draft regulations for the pilot regime for market infrastructures based on distributed ledger technology (DLT). The proposed regulations seeks to address the limited use of DLT by market infrastructures (e.g. trading venues or central securities depositories), and sets out (amongst other things) conditions for obtaining permission to operate a DLT market infrastructure, limits to DLT transferable securities that can be admitted to training or, or recorded by DLT market infrastructure, and associated reporting requirements.

See: Ashurst briefing on EU Commission papers on digital finance

Authors: Emma Tran & Vidhi Mahajan