7th Annual Optimising OTC Derivatives Operations
Mapping the highest impact present and future regulations for buy-side OTC Derivatives
Annual Optimising OTC Derivatives Operations In Fund Management
Mapping the highest impact present and future regulations for
November 1st 2011Tony Kirby
Relaunch Investment Suitability
Dodd-Frank► OTC derivatives► Proprietary trading► Living wills for “too big to fail”► Basel III requirements► Hedge funds► Compensation► Securitisation► Consumer / investor protection
IFRS Convergence► FASB / IASB convergence► IFRS 9 impairment► IFRS 9 hedging► Asset and liability offsetting► Single control model
FATCA► Disclosure of US
persons and assets to IRS or 30% withholding tax
Bank Levy► UK► France► Germany
Note: Many “regulations” are still only at proposal, draft or consultation stage. Nevertheless, all are expected to reach finamended between now and then, and become enforceable law within the next 2summit countries. What is shown here are the major regulatory changes, and is not meant to be exhaustive
The landscape of future regulatory reform is truly globalBasel III
► Capital and capital surcharges► Liquidity and liquidity coverage ratio► Conservation and countercyclical buffers► Leverage ratio► NSFR► Stress testing
Global Regulatory Reform► The G20 summit commitments
have led to a host of new regulatory requirements for banks worldwide
► The impact will be particularly heavy on investment banks
Schroders Global Reg Reform 2011Relaunch Investment Suitability
Retail Distribution Review (UK)► Adviser remuneration► Adviser professional standards► ‘Tied’ and independent investment
products
EU Regulation► AIFMD► EMIR► MiFID II► PRIPs► UCITS IV
Note: Many “regulations” are still only at proposal, draft or consultation stage. Nevertheless, all are expected to reach final enactment, however much amended between now and then, and become enforceable law within the next 2-3 years. This is necessary to meet the commitments made by the G20 summit countries. What is shown here are the major regulatory changes, and is not meant to be exhaustive
The landscape of future regulatory reform is truly global
“Swiss Finish”► Tougher capital
requirements for UBS and Credit Suisse than Basel III
Basel IIICapital and capital surchargesLiquidity and liquidity coverage ratioConservation and countercyclical buffers
Global Regulatory ReformThe G20 summit commitments have led to a host of new regulatory requirements for banks
The impact will be particularly heavy on investment banks
2Schroders Global Reg Reform 2011
Systemic risk regulation
Focus on market stability
and systemic risk
Enhanced prudential regulation
and supervision
Securitization —increased disclosures and
diligence; issuers required to retain some risk
Credit rating increased disclosures; management of conflict of interest; changes in regulations that rely on
Regulation; examinations; enforcement; disclosures; fiduciary standards
The US regulatory landscape under DoddThe Act lays out a framework; 300+ rules are required to build this out
Risk management — board level governance; developed risk appetite; independent risk management functions; scenario analysis and stress testing; aggregated monitoring and reporting
Liquidity management — diversified funding mix; analysis of liquidity under stress conditions; funding contingency plans; disclosure standards
Regulatory capital — address procyclicality; raising of “well capitalized” benchmarks; adoption of capital ratio ranges; enhancement of disclosure standards
Executive compensation — realign incentives; disclosure; alignment of risk/reward time horizon
“Living wills” — resolution and recovery planning for systemically important firms
Restriction on activity for banks
“Volcker Rule” — restrictions on proprietary trading and investments in private funds by banking organizations
Clearing and settlement systemsAsset managers
Heightened prudential regulation and supervision for the largest, most complex financial institutions
Greater transparency and disclosure
Consumer and investor protection measures
"The High-level Impact of Regulatory Reform on the Capital Markets”
*According to legal firm Davis Polk, 66% of Title VII were automatically-effective (‘selfmaking, and 6% of measures were automatically effective as of another date to be specified by the SEC/CFTC
Systemic risk regulation — Financial Stability Oversight Council
Credit rating agencies —increased disclosures; management of conflict of interest; changes in regulations that rely on
ratings
Regulation; examinations; enforcement; disclosures; fiduciary standards
OTC derivatives* — central counterparty clearing; capital and collateral requirements
The US regulatory landscape under Dodd-FrankThe Act lays out a framework; 300+ rules are required to build this out
Additional public company
disclosures
board level governance; developed risk appetite; independent risk management functions; scenario analysis and stress testing; aggregated monitoring and reporting
diversified funding mix; analysis of liquidity under stress conditions; funding contingency plans; disclosure standards
address procyclicality; raising of “well capitalized” benchmarks; adoption of capital ratio ranges; enhancement of disclosure standards
realign incentives; disclosure; alignment of risk/reward time horizon
resolution and recovery planning for systemically important firms
restrictions on proprietary trading and investments in private funds by banking organizations
OTC derivatives — certain derivative contracts prohibited for banks
Banks and bank holding companies
Hedge funds/private equity (PE)Insurance companies
Heightened prudential regulation and supervision for the largest, most complex financial institutions
level Impact of Regulatory Reform on the Capital Markets”
Dodd-Frank Wall Street Reform and Consumer Protection Act• Passed by Congress and signed into law by the US President (July 2010)• Request for Information (Advanced Notice of Proposed Rulemaking)• Detailed formal rule published by the relevant regulatory agency in the Federal Register - typically SEC or CFTC (open for public comment between 30 and 60 days after the posting of the rule)• The rule moves into “proposed rule” status after the comment period is closed• Final rules are published ; period for compliance with final rule may vary
effective (‘self-effecting’) as of July 16 2011; a further 22% expressly required further rule-making, and 6% of measures were automatically effective as of another date to be specified by the SEC/CFTC
Dodd-Frank Considerations
Understanding of issues polarising firms trading OTC derivatives as a result of DoddFi
rm lik
ely
to b
e im
pact
ed
by th
e Vo
lcke
r Rul
e §6
19?
+ive
on
intro
duct
ion
of th
e ne
w T
itle
VII m
easu
res?
Firm
aw
are
of th
e m
anda
tory
de
sign
atio
n of
a C
CO
und
er
§725
(b)
Firm
is a
war
e of
pos
sibl
e ex
empt
ions
/car
ve-o
uts?
Firm
is w
orrie
d ab
out e
xtra
-te
rrito
rial m
easu
res
bein
g ap
plie
d ou
tsid
e U
S
Firm
has
a s
olid
und
erst
andi
ng o
f th
e de
finiti
on o
f a M
SP
Firm
env
isag
es c
halle
nges
with
po
sitio
n lim
its b
eing
intro
duce
d
16%
79%
37%
49%
Firm
has
take
n ad
vant
age
of th
e FP
A ex
empt
ions
?
Unintended effects
21%32%
72%
Firm
has
a s
olid
un
ders
tand
ing
of th
e de
finiti
on o
f a S
EF
12%24%
"The High-level Impact of Regulatory Reform on the Capital Markets”4
Understanding of issues polarising firms trading OTC derivatives as a result of Dodd-Frank Title VII?
Source: Anthony Kirby/EY Intelligence 2011
53 firms
posi
tion
limits
bei
ng in
trodu
ced
Wou
ld S
DR
s m
ake
valu
atio
n ea
sier
to e
vide
nce
to y
our c
lient
s?
Wou
ld y
our f
irm tr
adin
g m
ore
volu
mes
of O
TCs?
Impa
ct o
n co
sts
for t
he b
uy-s
ide
of
OTC
Ds
infla
tiona
ry w
ithin
3 y
ears
?
Look
ing
to ta
ke a
dvan
tage
of
inte
rmed
iary
ser
vice
pro
vide
rs?
57%
37%
15%21%
13%
Sign
ifica
nt is
sues
in th
e pr
icin
g of
co
llate
ral t
o su
ppor
t im
/vm
calls
?
Positive onTransparency
Concerns at costs of collateral and operational risk
45%58%
Firm
has
a s
olid
und
erst
andi
ng o
f th
e de
finiti
on o
f a C
CP
Firm
has
sol
id u
nder
stan
ding
of t
he
capi
tal c
harg
es th
at w
ill b
e ap
plie
d to
trad
es n
ot c
lear
ed b
y a
CC
P
Firm
has
a s
olid
un
ders
tand
ing
of th
e de
finiti
on o
f a S
DR
24%
48%
level Impact of Regulatory Reform on the Capital Markets”
Systemic risk regulation
Focus on market stability
and systemic risk
Enhanced prudential regulation
and supervision
Market abuse —revision of current regime taking tech innovation and changes to
short selling into account
Credit rating increased disclosures; management of conflict of interest; changes in regulations that rely on
Regulations reinforced by local regulators in each jurisdiction according to the prevailing legal system in each Member State• Examples at a European level include MiFID, PSD, CCD, IMD, PRIPs and UCITS IV, and • Examples at a local level include TCF, RDR, Client Asset Rules, Product Intervention,
The European regulatory landscape There are over 70 regulations and directives impacting the European financial markets
Risk management — board level governance; developed risk appetite; independent risk management functions; scenario analysis and stress testing; aggregated monitoring and reporting
Liquidity management — diversified funding mix; analysis of liquidity under stress conditions; funding contingency plans; disclosure standards
Regulatory capital — addressing pro-cyclicality; raising of “well capitalized” benchmarks; adoption of capital ratio ranges; enhancement of disclosure standards
Remuneration — realigning incentives; disclosure; alignment of risk/reward time horizon via CRD III/IV, AIFMD and local measures
“Living wills” — resolution and recovery planning for systemically important firms
Restriction on activity for banks
“Vickers Report” — [UK only] potential restrictions from separating ‘retail’ bank activity from investment bank activity, with
ringfenced protections for former
Clearing and settlement systemsAsset managers
Heightened prudential regulation and supervision for the largest, most complex financial institutions (SIFIs)
Greater transparency and disclosure
Consumer and investor protection measures
"The High-level Impact of Regulatory Reform on the Capital Markets”
Systemic risk regulation — Financial Stability Oversight Council
Credit rating agencies —increased disclosures; management of conflict of interest; changes in regulations that rely on
ratings
Regulations reinforced by local regulators in each jurisdiction according to the prevailing legal system in each Member State; Examples at a European level include MiFID, PSD, CCD, IMD, PRIPs and UCITS IV, and Examples at a local level include TCF, RDR, Client Asset Rules, Product Intervention, §166 Notices etc.
EMIR — central counterparty (CCP) clearing; capital
and collateral requirements
landscape in overviewThere are over 70 regulations and directives impacting the European financial markets
Additional local regulatory
disclosures
board level governance; developed risk appetite; independent risk management functions; scenario analysis and stress testing; aggregated monitoring and reporting
diversified funding mix; analysis of liquidity under stress conditions; funding contingency plans; disclosure standards
cyclicality; raising of “well capitalized” benchmarks; adoption of capital ratio ranges; enhancement of disclosure standards
realigning incentives; disclosure; alignment of risk/reward time horizon via CRD III/IV, AIFMD and local measures
resolution and recovery planning for systemically important firms
[UK only] potential restrictions from separating ‘retail’ bank activity from investment bank activity, with
MIFIR/D Measures - Will formalise current banking activities in capital markets such as BCSs, HFT and OTFs, with restrictions on all
activities; new concept of depository liability per AIFMD
Banks and bank holding companies
Hedge funds/private equity (PE)Insurance companies
Heightened prudential regulation and supervision for the largest, most complex financial institutions (SIFIs)
5
Trialogue process administered:• European Commission (EC)• European Council of Ministers • European Parliament (EP)Other key supranationals include:• European Central Bank (ECB)• European Systemic Risk Board/Council (ESRC)• European Banking Authority EBA -(formerly CEBS)• European Insurance and Occupational Pensions Authority EIOPA - (formerly CEIOPS) • European Securities and Markets Authority ESMA - (formerly CESR)
level Impact of Regulatory Reform on the Capital Markets”
OTC derivatives – Characteristics and the EMIR proposals
Measures► Compulsory clearing of contracts eligible
for clearing► Requirements for CCPs and Trade
Repositories► Exemptions► US/EU alignment► Banning certain trades in sovereign bonds► Corporate exemptions from mandatory
central clearing; powers of ESMA in determining which contracts must be cleared
► ‘Collegiate’ approach► Possible bans ‘naked’ short selling
Objectives► Greater
transparency► Reducing
counterparty risks
► Reducing operational risks.
Characteristics to date► Bilateral negotiated transactions between two parties► Counterparty specific Credit Support Agreements used to
help manage credit risk► Market structures
"The High-level Impact of Regulatory Reform on the Capital Markets”
Characteristics and the EMIR proposals
6
Next Steps► Risk weights/margin requirements for
non-cleared contracts► Determination of extra-territoriality► Requirement for CCPs to have access
to central bank liquidity► Review clause exemption for
PFs/OPSs► Treatment of intra-group transactions
(Art 2a)► Correct treatment of FX and FX-like
instruments► Back-loading/front-loading of
transactions► Regulatory colleges?
Compulsory clearing of contracts eligible
Requirements for CCPs and Trade
Banning certain trades in sovereign bondsCorporate exemptions from mandatory central clearing; powers of ESMA in determining which contracts must be
Counterparty specific Credit Support Agreements used to
level Impact of Regulatory Reform on the Capital Markets”
Indicative Post Reform OTC Derivative Market Flows
Trade Execution
SEF
Reporting
FCM
Settlements
Repository
Confirmation / Affirmation/ Matching
Clearing
Customer 1
Customer 2
Futures Clearing
Member 1
Non-FCM Swaps Entity
SEF / Exchange (or bilateral if none exists)
CFTC/SEC
Customer 3
PaymentsPlatform
Standard Contract Non-Standard Contract
Affirmation Platforms(MarkitWire, ICE Link)
CCP/DCO(CME, ICE Trust (US), ICE Clear
(EU), LCH.Clearnet, Eurex
Swap repository(DTCC TIW, MarkitSERV)
Futures Clearing
Member 2
Futures Clearing
Member 3
"The High-level Impact of Regulatory Reform on the Capital Markets”
Indicative Post Reform OTC Derivative Market Flows
► Standard Contracts► All trades must go through SEF / exchange,
if one exists► If no SEF / exchange exists, the dealer
(FCM1) finds other side (FCM2) and executes bilateral trade which is then cleared through the CCP
► All trades cleared through CCP and information goes to Swap Repository for reporting to CFTC / SEC and to market participants (general information only)
► Legal agreements to be determined, likely similar to futures agreements with addendums, give up agreements and ISDA-like terms
► End user exemption to clearing requirement available
► Non-Standard (Bilateral) Contracts► Deal execution likely similar to current
practices► Deal documentation (ISDA / CSA) likely
similar to current practices► Increased margin requirements
► Reporting► Dealers report trade information to Swap
Repository or CFTC/SEC if trade is not Swap Repository eligible► Only one entity reports information
based on defined hierarchy (most sophisticated party to the trade is required to report)
Customer 4
Futures Clearing
Member 4
Swap Repositoryeligible?
No
Yes
Standard Contract
level Impact of Regulatory Reform on the Capital Markets”
Central clearing All standardised derivatives contracts for ‘products eligible for clearing’ to be cleared through regulated ‘clearing houses’
Trade execution Recommendation that all OTC derivatives executed either on a regulated exchange or ‘exchange-like trading facility’ (e.g., SEF)
Standardisation Definitions of standardised OTC Derivatives/participants being updated to match evolving markets. ‘Swap dealer’ and ‘Major swap participant’ are defined terms, as will ‘Commercial end- user’
Controls and reducing risk
All OTC derivatives dealers and all other major OTC derivatives markets participants will be constrained by regulation, supervision, a capital regime, margin requirements and business conduct rules and tightening of standards of who may participate in those derivatives markets
Proprietary trading Volcker Rule may impact proprietary trading
Transparency Transparency of OTC derivatives markets enhanced through record keeping and reporting requirements and provision of trade data repositories
Position limits Position limits will be applied to determine risk transparency. Extra-territorial direction per CFTC?
Exemptions Commercial end users may be exempt from the need to post margin to meet the clearing requirement. There is not expected to be a broad exemption from balance sheet hedging
Regulation summary – comparison of US and EU reforms
"The High-level Impact of Regulatory Reform on the Capital Markets”
Mandatory CCP clearing for eligible products, by standardisation and liquidity. EC wants to see competitive CCP models; FX Swaps categorised per MiFID
EC direction of travel is increasingly that 'securities eligible for clearing' move onto organised trading venues. FSA/HMT does not see the need for mandating the trading of OTC derivatives onto merely exchanges at this stage
updated to match evolving markets. ‘Swap dealer’ and ‘Major swap More standardisation:► Contract specifications► EC focus on legal terms of the contract; Standardisation needs to take the
form of legal, commercial and operational issues; Capital requirements set by CRD III/IV?
markets participants will be constrained by regulation, supervision, a capital regime, margin requirements and business conduct rules and
Reduce counterparty risk by:► Proposing legislation to establish common safety, regulatory and
operational standards for central counterparties (CCPs) ► Improving collateralisation of bilaterally-cleared contracts► Substantially raising capital charges for CCP-cleared transactions► Mandate CCP-clearing for standardised contracts. No Volcker Rule as yet
No equivalent at present
Transparency of OTC derivatives markets enhanced through record MiFID Reviews on Transparency Pre-/Post Trade; Widening use of trade data repositories (already used for IRSs, CDSs); regulators to be allowed open access vs. data privacy
The scope for manipulation set out in the Market Abuse Directive (MAD) extended to derivatives and regulators given the possibility to set position limits (FSA against)
Commercial end users may be exempt from the need to post margin Exemption for Corporates not granted. Re view clause for PFs and OPSs. Two proportionality tests will be applied per (a) an information threshold and (b) a clearing threshold
comparison of US and EU reforms
8Degree of overlap? LowHigh DKs
level Impact of Regulatory Reform on the Capital Markets”
EMIR Considerations
Understanding of issues polarising firms trading OTC derivatives as a result of EMIR?A
con
sist
ent d
irect
ion
of tr
avel
ex
pect
ed fo
r the
US
vs
Eur
ope
Aw
are
of p
ossi
ble
exem
ptio
ns/ c
arve
-ou
ts u
nder
3 y
r rev
iew
cla
use
42%
74%69%
7%
Firm
has
ope
ratio
nal r
isk
issu
es w
hen
hand
ling
OTC
der
ivat
ives
?
49%54%
Tryi
ng to
get
sta
ndar
dise
d le
gal e
ntity
do
cum
enta
tion
will
be
one
of o
ur
bigg
est c
halle
nges
?
Firm
has
a s
olid
und
erst
andi
ng o
f the
de
finiti
on o
f a C
CP
Firm
has
a s
olid
und
erst
andi
ng o
f the
de
finiti
on o
f a T
DR
37%46%
Wou
ld T
DR
s m
ake
valu
atio
n ea
sier
to
evid
ence
to y
our c
lient
s?
Firm
has
“trig
ger”
pro
cess
to r
evie
w
Firm
has
sol
id u
nder
stan
ding
of t
he
risk
wei
ghts
that
will
be
appl
ied
to
trade
s no
t cle
ared
by
a C
CP
63%Cost concerns Lack of info
"The High-level Impact of Regulatory Reform on the Capital Markets”
Understanding of issues polarising firms trading OTC derivatives as a result of EMIR?
Source: Anthony Kirby/EY Intelligence 2011
53 firms
Exp
ect s
igni
fican
t iss
ues
in
parti
cipa
ting
in th
e re
po m
arke
ts
Wou
ld y
our f
irm tr
adin
g m
ore
volu
mes
of O
TCs?
Look
ing
to ta
ke a
dvan
tage
of
inte
rmed
iary
serv
ice
prov
ider
s?
37% 39%
58%
54%
71%
60%
46%
28%
Sig
nific
ant i
ssue
s in
the
pric
ing
of
colla
tera
l to
supp
ort i
m/v
m c
alls
?
Firm
has
“trig
ger”
pro
cess
to r
evie
w
expo
sure
to a
eac
h C
P?
Trad
e m
ore
"cro
ss a
sset
cla
ss" a
s a
resu
lt of
EM
IR
OTC
Cle
arin
g w
ill in
crea
se
requ
irem
ents
for i
ntra
day
data
?
Arc
hivi
ng p
roce
sses
rob
ust p
er
ISD
As/
Cre
dit S
uppo
rt A
nnex
es?
Impa
ct o
n co
sts
for
the
buy-
side
infla
tiona
ry?
Eroding confidence 64% Cost concerns
level Impact of Regulatory Reform on the Capital Markets”
MiFID II – Characteristics of MiFIR/MiFID
Objectives - MiFID II► Increased
competition and fragmentation
► Market, product and technology developments
► The financial crisis exposed weaknesses in the regulation and transparency of non-equity instruments.
► Level of investor protection seen as insufficient
Characteristics to date► New entrants and collaborations e.g. NASDAQ-OMX, Euro
consolidation and exits► Exchanges lowered spreads and changed their pricing► System outages► Best Execution challenges for illiquid instruments► Bigger footprint for HFT► Dark pool market-shares in Europe
"The High-level Impact of Regulatory Reform on the Capital Markets”
Measures - Trading► Extending pre-/post-trade transparency
requirements to equity-like products ► A large proportion of OTC derivatives
trading will be expected to migrate onto electronic trading venues
► New category of trading venues called “organised trading facilities” (OTFs)
► Implementation of position limits► Greater supervision of HFT/algorithms;
Measures – Investor Protection► MiFID II extends COB rules to new
asset classes and changes the client categorisation rules
► Far more intense focus on the list of complex products
► MiFID II introduces far more explicit treatment of inducements.
MiFID II consultations
, Euro-Millennium, Smartpool, Baikal now overtaken by
level Impact of Regulatory Reform on the Capital Markets”
Next Steps► MiFID II will take the form of a directive
(applied in every Member State in the EU transposed into national law) AND a regulation (applied across every Member State in the form of a single legal effect
► Effective date for these changes is likely to be late 2013 / early 2014, and much detail is yet to emerge, the magnitude of the changes.
► Leading organisations are already analysing the impact and planning.
► Common global programmes are essential to avoid duplication and rework.
► The issue of ‘third-country access’ is likely to be one of the most controversial areas.
► MiFID II measures favour open, non-discriminatory access to venues and clearing houses, but this is not explicit in EMIR.
trade transparency like products
A large proportion of OTC derivatives trading will be expected to migrate onto electronic trading venuesNew category of trading venues called “organised trading facilities” (OTFs)Implementation of position limitsGreater supervision of HFT/algorithms;
Investor ProtectionMiFID II extends COB rules to new asset classes and changes the client
Far more intense focus on the list of
MiFID II introduces far more explicit
How might asset management firms be impacted under MiFID II?
Addressing developments in Market Structures
New Market Structures
Equities
Pre-/Post Trade Transparency
Equity-like
Best Execution/ Liabilities
</> Trade Transpar. Non Eq.
</> Trade Transpar.
Commods.
MTF
Cha
nges
Dar
k P
ools
/OTF
s
HFT
Pro
visi
ons
Ord
er H
andl
ing
IOI M
anag
emen
t
EC
T
Equ
ity-li
ke
Non
-Eqs
incl
. OTC
Liab
ilitie
s
Pre
-Tra
de T
rans
p.
Pos
t-Tra
de D
iscl
.
Pre
-Tra
de T
rans
p.
Pos
t-Tra
de D
iscl
.
Investment Banks
Investment Managers
Snapshot of additional requirements under MiFID II for firms with a Dodd Frank Programme
► No Dodd Frank equivalent in MiFID II for;► IOI Management for Pre-/Post Trade Transparency for Equity-like products► Best Execution Liabilities► Client Classification, Appropriateness, and Inducements within the provision of Investment Services and protection of Client ► Order Reporting and Outsourcing within System and Controls/Record-keeping
► Other Considerations;► Additional Connectivity to OTF/MTF in addition SEF’s in the US? Connectivity to SDR’s by asset class and geographic location?► Differences in legislation requirement and detail levels. For example MiFID II post-trade reporting may be set according to asse
type of instrument and liquidity. Indications are that trade reports must include a trader ID and who made investment decisiodetails for post trade reporting are also yet to be finalised but may differ from MiFID II.
► Legislation effective date timing differences► Legal Entity considerations and impacts
The level of impact of MiFID II differs in most areas for Investment Banks and Investment Managers
"The High-level Impact of Regulatory Reform on the Capital Markets”
How might asset management firms be impacted under MiFID II?
Other Investor Protection Miscellaneous
</> Trade . .
Provision of Investment Services and Protection of Client Interests R
eg.
Supe
rvis
ion
Third
C
ount
ries
Systems & Controls/ Record-keeping
Clie
nt C
lass
ificn
.
Clie
nt In
form
atio
n
CO
I Mgm
t.
Sui
tabi
lity
App
ropr
iate
ness
Clie
nt A
sset
s
Indu
cem
ents
Clie
nt R
epor
ting
Inte
r-R
egul
ator
y C
o-op
erat
ion
Rec
ipro
cal 3
rdC
ount
ry
Acc
ess
Ord
er R
epor
ting
Sys
tem
s/R
ecor
ds
Tran
s. R
epor
ting
Out
sour
cing
Key
High MediumLowNA
11
Client Classification, Appropriateness, and Inducements within the provision of Investment Services and protection of Client Assets
Additional Connectivity to OTF/MTF in addition SEF’s in the US? Connectivity to SDR’s by asset class and geographic location?trade reporting may be set according to asset class and in some cases the
type of instrument and liquidity. Indications are that trade reports must include a trader ID and who made investment decisions. Dodd Frank equivalent
The level of impact of MiFID II differs in most areas for Investment Banks and Investment Managers
level Impact of Regulatory Reform on the Capital Markets”
Page 12
FATCA – A summary
► The Foreign Account Tax Compliance provisions of the US HIRE ACT (signed into law 18 March 2010) are designed to counter offshore tax avoidance by US
► Under FATCA, foreign financial institutions (“FFIs”) must:► Enter into an agreement with the IRS, ► Provide information identifying their US accounts and certain US owners of their customers, ► Obtain a waiver from account holders to allow information reporting to the IRS or closure of
the account, and► Withhold on “recalcitrant” account holders and account holders that are nonOtherwise….► FATCA imposes a new 30% withholding tax on certain payments (“
“passthru” payments) made to the nonIRS that it has no US accounts.
► Proposed regulations being developed but substantial a short time frame:
► Notice 2010-60 (30 August 2010) provided 'preliminary guidance on priority ► Notice 2011-34 (8 April 2011) provides refinements of certain procedures introduced in the
earlier notice and further guidance on 'priority concerns' ► Notice 2011-53 (14 July 2011) provide a revised timetable for FATCA implementation
► The FATCA provisions include (potentially onerous) new reporting requirements for foreign financial institutions. These rules are effective for FFIs from 1 July 2013.
FATCA has implications across the entire spectrum of asset managementprocesses and systems used as well as core external relationships
The Foreign Account Tax Compliance provisions of the US HIRE ACT (signed into law 18 March 2010) are designed to counter offshore tax avoidance by US persons.Under FATCA, foreign financial institutions (“FFIs”) must:
Enter into an agreement with the IRS, Provide information identifying their US accounts and certain US owners of their customers, Obtain a waiver from account holders to allow information reporting to the IRS or closure of
Withhold on “recalcitrant” account holders and account holders that are non-compliant FFIs.
FATCA imposes a new 30% withholding tax on certain payments (“withholdable” and ” payments) made to the non-participating FFI, unless the FFI certifies to the
IRS that it has no US accounts.
Proposed regulations being developed but substantial regulatory guidance required in
60 (30 August 2010) provided 'preliminary guidance on priority issues‘34 (8 April 2011) provides refinements of certain procedures introduced in the
earlier notice and further guidance on 'priority concerns' (14 July 2011) provide a revised timetable for FATCA implementation
The FATCA provisions include (potentially onerous) new reporting requirements for foreign financial institutions. These rules are effective for FFIs from 1 July 2013.
entire spectrum of asset management and will have a significant impact on the processes and systems used as well as core external relationships
Page 13
Focal Points for IM Strategy in 2011 by Risk and Regulatory Priority
Top risk categories receiving special attention from Compliance and Regulatory Reform areas in 2011
(not including FATCA)
Rel
ativ
e S
core
0
TCF/
Mis
-sel
ling
Ris
k
Sov
erei
gn (E
uro)
R
isk
X-J
uris
dict
iona
l Reg
R
isk
Oth
er re
gula
tory
R
isk
e.g.
Brib
ery
Act
Out
sour
cing
/Ven
dor
Ris
k
Cap
ital/L
iqui
dity
Ris
k
Inve
stm
ent R
isk
Man
date
/Clie
nt
Inst
ruct
ion
Ris
k
Sol
venc
y R
isk
Oth
er C
ount
ry R
isk
Cou
nter
party
Ris
k
Pro
duct
/Cro
ss-
curre
ncy
Ris
k
M&
A R
isk
Con
cent
ratio
n R
isk
Common issues and challenges:► The need to identify legal entities and US/foreign persons is growing in priority; re-tooling legal entity data and building ‘lo► Investor protection is a common theme, whether focusing on the miss-selling of guaranteed products, product intervention measure
"The High-level Impact of Regulatory Reform on the Capital Markets” 13
Focal Points for IM Strategy in 2011 by Risk and Regulatory Priority
Top regulation categories receiving special attention from Compliance and Regulatory Reform areas in 2011
(size of circles refers to relative industry spend)
Prio
rity
for I
Ms
HIGH
MEDIUM HIGHLikely Impact on IMs
tooling legal entity data and building ‘look-through’ arrangements is a significant effort for many IMsselling of guaranteed products, product intervention measures and the proposed MiFID measures concerning complex products
MEDIUM
MAR
AIFMD
UCITS IV
Bribery Act
MiFID IIProduct
Reg RDR
GovernanceShort Selling
RemunerationAML
PRIPs
Solvency II
Dodd Frank VII & EMIR
ICAAP
Client Money
FATCA
level Impact of Regulatory Reform on the Capital Markets”
Page 14
What’s changing and what it means
SUMMARY OF PROPOSALS
► Closer supervision and regulation of all derivative markets in most G20 countries
► Restrictions on ‘complex’ products in EU/EEA; investor protection as a significant theme
► Enhanced transparency and information collection in every G20 country
► Comprehensive reporting of all OTC derivative transactions to authorities in most G20 countries
► A much greater degree of multilateral clearing of contracts through CCPs – mandated (US), incentivised (EU) or TBD (A/P)
► Greater standardisation of and focus on market abuse contracts in most G20 countries
► Increased electronic trading of OTC derivative contracts in most G20 countries
► Higher capital charges and collateralisation requirements for non clearing eligible trades
"The High-level Impact of Regulatory Reform on the Capital Markets”
What’s changing and what it means
NEW BUSINESS PROCESSES:► Risk policy reviews with all counterparties► Selection of clearing brokers for cleared OTC
derivatives► Clearing process, accounts and depositories► OTC give-ups, clearing accounts► Major Swap Participant (MSP) or significant client
analysis INVESTMENTS IN INFRASTRUCTURE:► Trade reporting / electronic connectivity► Affirmation / confirmation processes and platforms► Managing and reconciling collateral calls► Changes to counterparty risk systems► More data will be required across the organisationNEW LEGAL FRAMEWORKS:► Legal documents (ISDAs) will require review and
agreement► Amendments to existing documents► New give-up agreementsIMPLEMENTATION:► Impact and CMM assessments Developing
implementation roadmaps including TOMs/TAMs, key milestones, timelines, accountability, resource requirements and infrastructure and reporting needs
POTENTIAL INCREASE IN COSTS:► Use of cash and higher grade assets for collateral► Increase in collateral for OTCs not centrally cleared
level Impact of Regulatory Reform on the Capital Markets”
Page 15
What should asset managers be doing now
03 November 2011
INTERNAL ANALYSISMandates► Review mandates more broadly, e.g. changes,
fiduciary considerations, ability to hold cash for clearing margin
Counterparty Risk► Re-consider key elements of counterparty risk
strategy in light of ability to clear OTC in the futureBusiness Models/Positions► Audit all venues for transacting across all asset
classes/across asset classes; optimize connectivity► Analysis of existing positions/eligibility for clearing► Review margin requirements including mandates to
hold excess cash for margin► Analysis of future plans for OTC usage and clearing
eligibilities; CCP interoperability for cash instruments► Pay particular attention to treasury (FX, NDFs etc.)Operating Models► Determine governance and risk appetite► Identifying changes to current processes and
systems to fit future target operating model► Identify data requirements across the business► Develop IT design and estimate cost for budget
provision and cost/benefit analysis with a focus on reporting to regulators and clients
► Summarize commercial strategy – cost / benefit analysis of clearing and possible leverage with multiple regulations in mind
"The High-level Impact of Regulatory Reform on the Capital Markets”
What should asset managers be doing now
ANALYSIS OF SELL-SIDE ENTITIESExecuting and clearing brokers:► Review of ISDA and FCM status by dealer► Engage with dealers via questionnaires to compare:
► Services to be offered► Level of margin, both im/vm► Check if collateral transformation service offered
and on basis of what capitalization/stress testsFund Administrators:► Review outsourcing agreements► Check liability arrangements (for assets, client money
etc.)► Compare service level agreementsClearing Houses:► Build up house-view/clearing house in light of current/
future implementations (eg CME Europe, ICE Clear)► Engage with clearing houses to understand detail of
services offered and any restrictions► Compare servicesVendors:► Review service level agreements► Review risk materiality► Check liability arrangements (if any)
► Consider implications for investors► Develop investor communication strategies► Don’t forget about ‘client risk’
level Impact of Regulatory Reform on the Capital Markets”
Page 16
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