The SFTR Journey
SFTR has been 7 years in the making and still changing
After nearly seven years in the making, reporting under Article 4 of the SFTR finally, for phase 1 and 2 reporting counterparties, went live last week.
Back in August 2013 the FSB published its Policy Framework for Addressing Shadow Banking Risks in Securities Lending and Repos and it is upon this that the SFTR was built.
The regulation itself came into force in January 2016 which included conditions for the re-use of collateral in July-2016 and fund disclosure requirements in July-2017. After many delays, the RTS and ITS in relation to Article 4's reporting requirements finally entered into application in April-2019 which meant an original expected go live date of 11 April 2020 for phase 1 firms.
Industry collaboration predominantly through the ICMA, ISLA and AFME working groups has been hugely beneficial in relation to arriving at a common interpretation and best practices to adhere to with regards to booking practices, reporting semantics and field population. These bodies have also represented the industries view for Repo, Sec Lending and Margin Lending respectively to ESMA on elements of the regulation that have challenged the industry.
When Covid-19 hit and in response to requests for delay from the leading industry bodies ESMA provided a much-needed extension for phase 1 firms in the form of a 3-month delay. With ESMA being unable to change the legal framework they engineered the 3-month extension by not registering trade repositories and stated they themselves were not in a position to accept reports directly (the legal fall back for there being no registered TRs).
ESMA published their level III measures in January this year. The publication brought clarity but also contradicted some of the industry best practices that had been agreed in industry forums. As a result, this impacted firms target state solutions at a late stage in the build. The approach to reporting contractual vs settled collateral and trade based vs net exposure collateral for Repo being two areas which are still being discussed at industry level. Firms have simply been unable to implement these material changes in their reporting for day 1.
In June this year the chancellor of the exchequer announced the UKs divergence on SFTR in that reporting obligations for non-financial counterparties which were due to commence in January 2021 would not be incorporated into UK law. The industry awaits with baited breath to see if this is an early indicator of the UKs appetite for divergence from the EU’s regulation of financial services.
The journey to go live
The journey to go live has been far from a smooth one, the industry considers the SFTR reporting framework to be one of the most complex regulatory reporting initiatives to date. The five reports, Loan and Collateral, Margin Data, Collateral Reuse, Cash Reinvestment and Margin Lending funding sources require data to be sourced from both inside and outside of organisations. Unlike its derivatives equivalent, EMIR, the amount of data that firms have needed to source from third parties has been vast, both at the attribute and transaction level. Examples of the data sourcing challenge being transactions executed through CSD lending/borrowing programmes, Tri-Party Collateral, Agent Lender Disclosure, CCP margin, additional securities and client reference data and of course UTI.
The readiness of some of the third parties has been a cause for concern and has introduced added complexity in relation to the co-ordination of testing activities in the lead up to go live.
The security reference data required to report the asset on loan for sec lending and the collateral components has and continues to be an issue. ESMA provided some relief in relation to the LEI of the issuer for Non-EEA issued securities by relaxing the prescribed validation rules that enforce the existence of the attribute in the loan and collateral reports. This relief was not extended to EEA issued securities where a reported 20% are still missing this data point leaving firms with the choice of not trading the security or for most the need to utilise an alternative LEI and have controls in order to remediate reports at a future date.
Firms have run client and entity reference data outreach programs in order to gather the data points needed to populate the reports, identify mandatory delegated reporting obligations and to agree with their counterparts how and where they will exchange UTI. To this point whereby pre-matching has come to the fore in lieu of mature confirmation processes, the likes of which were leveraged for derivatives UTI dissemination, interoperability between these pre-matching platforms is still a watching brief. Firms have had to consider a multitude of alternative methods to disseminate or ingest the UTI, namely email, specific file transfers, Bloomberg Chat and VCON.
Due to the data sourcing challenge and as a result of firms increasing adoption of Regulatory Technology vendor platforms, two major partnerships emerged to offer solutions for SFTR: IHSMarkit-Pirum and Equilend-TRAX. The main initial driver for firms to engage with these offerings were their existing solutions in the securities finance post trade space and their new solutions to the untimely Agent Lender Disclosure problem whereby without a vendor solution firms simply would not be able to report their agent lender activity in a timely fashion. Some suggest an alternative to this could have been a revision to the ALD process itself.
The dependency on these platforms is huge, some firms utilising them to perform full reporting, others utilising them for pre-matching (UTI) and as a provider of data for their proprietary or alternative vendor platform to report. The vendor landscape itself has seen much change in the lead up to go live, IHSMarkit partnered with Cappitech to provide their SFTR solution, Bloomberg acquired RegTek Solutions, the DTCC launched their Report Hub solution and the CME and Deutsche Borse both announced closures to their reg reporting businesses, price wars and the complexity of ongoing regulatory change being touted as the backdrop to these closures.
On the Trade Repository front the DTCC continues to strengthen its position as the largest global trade repository, recent reports stating 250 clients have committed to using the GTR to meet their SFTR reporting obligations.
What Lies ahead
Whilst the 13th July marks the go-live date for many, in reality the SFTR reporting journey has only just begun. BAU reporting has commenced, production issues will need remediating, in parallel firms will be sizing up their day 2 items that remain outstanding from ESMAs level III measures and implementing support for delegated reporting offerings. Many will also turn their attention to control frameworks, the typical approach being to focus on primary reporting and then implement the required controls once this beds in.
Initial pairing and matching will mainly be related to activity in the dealer to dealer Repo markets, cleared SFTs and SFTs executed with a CSD, many firms will have chosen to delegate their reporting of the latter to their CSD meaning pairing and matching should be seamless. The expectation is that pairing rates will be improved in comparison to the EMIR go live due to pre-matching.
The reporting of SFTs executed with a member of the ESCB under MiFIR has been low on the industries radar with the industry focussing on the primary SFTR reporting challenge. This for many will be a day 2 item as the industry working groups continue to discuss the approach.
In October the buy-side will commence their reporting, industry readiness is mixed. This will have the biggest impact on pairing and matching and the associated controls as volumes increase significantly.
Many of the buy-side firms are looking to delegate their reporting, much consideration needs to be given to this from a controls perspective and how delegating parties will perform their reuse reporting. Few sell side firms will offer this and where they do they will not have the data to report on the buy side firms behalf meaning this still poses a significant challenge for the delegating firm.
SFTR is the first regulatory reporting regime to mandate a standardised interface for reporting firms to communicate with the trade repositories, ISO20022. The view being that a standardised interface improves data quality and TR portability. This format was used in the MiFIR reporting regime being mandated for NCA direct reporting but was not mandated for interactions between a reporting firm and an ARM. As we look forwards to EMIR REFIT, ISO20022 will be adopted for TR interactions. Overall ISO20022 utilisation for SFTR has been viewed as a success, some issues remain with the XSD and it does not enforce all of ESMAs validation rules, updates to both are expected in the next year. Having a central body govern the interface has removed problems introduced by different interpretations of the data required manifesting in TR interfaces and has allowed reporting counterparties, vendors and TR’s to all work to a common standard.
SFTR has been a long and complex journey and is far from over yet. The industry bodies have played a pivotal role in the path taken thus far. On-going collaboration will be key to collectively resolve issues experienced post go-live, the DTCC have already announced their intention to work closely with clients to address data quality issues and the expectation is that close collaboration between TRs, Vendors, Trade Associations and Regulatory bodies will be required before the regulation is capable of achieving its intended goal. Vendors have taken a prominent role in the reporting and with the ever-changing vendor landscape it will be interesting to see how this evolves over time. As firms bed in their BAU reporting and controls there is the added complexity of Brexit. Firms will need to be ready to submit their reports to the relevant UK or EU Trade Repository. Then there's the UKs potential divergence from EU regulation, the open question on the extent of this and if in reality from a reporting perspective this will add further challenges as a result of a differing approach.