ISLA: CSDR buy-ins may deter asset owners from lending
03 February 2021 UK
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The introduction of mandatory buy-ins for settlement fails as part of the Central 网爆吃瓜 Depositories Regulation鈥檚 (CSDR) settlement discipline regime (SDR) in February 2022 may put asset owners off from lending and drain the global liquidity pool, warns the International 网爆吃瓜 Lending Association (ISLA).
The trade body submitted a pragmatic response to the European Commission鈥檚 CSDR consultation, which closed yesterday and drew widespread concern
over the requirements of the SRD, with many industry stakeholders offering various suggestions on how it could be amended without losing the spirit of the regulation鈥檚 aims.
Along with the mandatory buy-ins, the regime would also bring cash penalties for failing to settle trades.
In ISLA鈥檚 letter to the European Commission, Adrian Dale, head of regulation and market practice, writes: 鈥淥ur members consider the introduction of a penalty mechanism to be an effective tool in reducing settlement failures across our industry, and strongly believe that this mechanism alone will help to achieve that objective.
鈥淗owever, there is unanimous industry concern relating to the introduction of a mandatory buy-in," he adds.
Dale outlines that the one-size-fits-all buy-in proposal 鈥渃ould be severely damaging to market liquidity鈥�, if applied to securities financing transactions, adding that securities lending, in particular, contributes to reducing settlement fails by offering an alternative avenue for accessing securities when traditional routes breakdown.
鈥淢embers are also concerned that by introducing an additional risk for parties to securities lending transactions, asset owners that engage in securities lending as a low-risk discretionary activity may be deterred from lending their assets,鈥� Dale continues. 鈥淭his would reduce the pool of securities available to borrow, leading to less liquidity and increased settlement failure.鈥�
As such, ISLA would "strongly recommend鈥� the introduction of the SDR be decoupled into two phases.
Phase one would see the cash penalties go-live as planned in February 2022 without the buy-ins. Phase two introduces the buy-in requirement after policymakers conduct an 鈥渋n-depth assessment of the penalty mechanism to understand if it alone can achieve 鈥榯arget鈥� efficiency rates and grant the European 网爆吃瓜 and Markets Authority to recalibrate penalty rates where no significant improvement is shown鈥�.
Additionally, Dale suggests, the authority should clarify the scope of instrument types captured by the buy-in regime to ensure its effectiveness and, after further consultation with the industry, resolve any ambiguity in the current regulation.
ISLA also uses the consultation response to highlight the significant legal repapering exercise that baking the buy-in requirement into contracts would entail.
鈥淚mplementing Article 25 of the regulatory technical standards will require firms to expend significant legal and operational resources, in order to establish contractual arrangements with clients and counterparts,鈥� Dale writes. 鈥淭his represents a significant undertaking whilst providing little practical benefit, considering the securities financing master agreements contain contractual remedies addressing settlement failures."
Dale suggests that these remedies 鈥渉ave been an effective means of governance for many years and members believe they match the objectives of the buy-in requirements under CSDR. Any amendments to the current documentation will result in a global repapering exercise, which will take considerable time.鈥�
ISLA, like the International Capital Market Association, concludes by emphasising that, given regulators are not expected to respond until Q4, this timetable risks leaving those in-scope of the SDR very little time to pivot their legal and infrastructure frameworks to comply with the rules in time with February 2022.
The trade body submitted a pragmatic response to the European Commission鈥檚 CSDR consultation, which closed yesterday and drew widespread concern
over the requirements of the SRD, with many industry stakeholders offering various suggestions on how it could be amended without losing the spirit of the regulation鈥檚 aims.
Along with the mandatory buy-ins, the regime would also bring cash penalties for failing to settle trades.
In ISLA鈥檚 letter to the European Commission, Adrian Dale, head of regulation and market practice, writes: 鈥淥ur members consider the introduction of a penalty mechanism to be an effective tool in reducing settlement failures across our industry, and strongly believe that this mechanism alone will help to achieve that objective.
鈥淗owever, there is unanimous industry concern relating to the introduction of a mandatory buy-in," he adds.
Dale outlines that the one-size-fits-all buy-in proposal 鈥渃ould be severely damaging to market liquidity鈥�, if applied to securities financing transactions, adding that securities lending, in particular, contributes to reducing settlement fails by offering an alternative avenue for accessing securities when traditional routes breakdown.
鈥淢embers are also concerned that by introducing an additional risk for parties to securities lending transactions, asset owners that engage in securities lending as a low-risk discretionary activity may be deterred from lending their assets,鈥� Dale continues. 鈥淭his would reduce the pool of securities available to borrow, leading to less liquidity and increased settlement failure.鈥�
As such, ISLA would "strongly recommend鈥� the introduction of the SDR be decoupled into two phases.
Phase one would see the cash penalties go-live as planned in February 2022 without the buy-ins. Phase two introduces the buy-in requirement after policymakers conduct an 鈥渋n-depth assessment of the penalty mechanism to understand if it alone can achieve 鈥榯arget鈥� efficiency rates and grant the European 网爆吃瓜 and Markets Authority to recalibrate penalty rates where no significant improvement is shown鈥�.
Additionally, Dale suggests, the authority should clarify the scope of instrument types captured by the buy-in regime to ensure its effectiveness and, after further consultation with the industry, resolve any ambiguity in the current regulation.
ISLA also uses the consultation response to highlight the significant legal repapering exercise that baking the buy-in requirement into contracts would entail.
鈥淚mplementing Article 25 of the regulatory technical standards will require firms to expend significant legal and operational resources, in order to establish contractual arrangements with clients and counterparts,鈥� Dale writes. 鈥淭his represents a significant undertaking whilst providing little practical benefit, considering the securities financing master agreements contain contractual remedies addressing settlement failures."
Dale suggests that these remedies 鈥渉ave been an effective means of governance for many years and members believe they match the objectives of the buy-in requirements under CSDR. Any amendments to the current documentation will result in a global repapering exercise, which will take considerable time.鈥�
ISLA, like the International Capital Market Association, concludes by emphasising that, given regulators are not expected to respond until Q4, this timetable risks leaving those in-scope of the SDR very little time to pivot their legal and infrastructure frameworks to comply with the rules in time with February 2022.
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