On August 23rd, the UK government issued a series of papers covering large swathes of the British economy with guidance for preparedness in the event of a no-deal Brexit next March, and so an abrupt rupture in its relations to the 27 remaining EU member-states.
If no deal is agreed, the impacts on the firm’s clients might be massive, and could include:
- Legal uncertainty as to the enforceability of existing and future contracts
- Cut-off of access to UK CCPs from EEA clients
- End to direct settlement of EU securities in the UK
- EU settlement finality protections would be lost in the absence of UK equivalent law
- UK trading venues will no longer be considered EU-compliant for that clientele
- Credit rating agencies in the UK will no longer be valid for EU regulatory purposes
- Trade repositories will lose their authorization in the EU
UK clients using UK facilities are about all that will remain unaffected, but even then they will be transacting in an abruptly, utterly transformed market and infrastructure environment.
Financial Market Infrastructure (FMI)
We cite extensively here the central questions for TM clients from the government paper on banking, insurance, and other financial services.
There will be no need for UK-based clearing members (and for example UK-based clients of UK clearing members) using UK central counterparties (CCPs) to take any action as a result of EU exit. To ensure that there will be no significant impact for UK-based users of non-UK CCPs (including EEA CCPs) as a result of EU exit, the government has provided for a temporary regime that will enable non-UK CCPs to continue to provide services to the UK for a period of up to three years. To enter into the temporary regime, non-UK CCPs will simply have to notify the Bank of England before exit that they would like to continue to providing clearing services in the UK. The Bank of England will provide further detail on this in due course. However, without EU action, EEA clearing members and trading venues will no longer be able to use UK CCPs to provide their clearing services. In addition, EEA customers could no longer meet the requirement to centrally clear for some products that are in scope of the clearing obligation by clearing through UK CCPs, such as interest rate swaps.
The UK’s Central Securities Depository (CSD) currently provides services to both the UK and Irish markets. For customers settling UK securities at the UK CSD, there will be no change as a result of exit. If no action is taken by the EU authorities and EU countries, EU securities may no longer be able to be directly settled in the UK.
To ensure that there is no significant impact on UK customers of non-UK CSDs, including those within the EU, the government is bringing forward legislation that will allow these CSDs to benefit from transitional provisions. These CSDs will be able to continue to provide services to the UK until both equivalence and recognition decisions are made. Further details on this regime are expected to be provided by HM Treasury and the Bank of England in September 2018.
There will be no need to take any action for FMIs that are already designated on exit day under the UK Settlement Finality Regulations (SFR). Their designation in respect to UK insolvency will carry on. When the UK leaves the EU, it will no longer be a part of the EU Settlement Finality Directive (SFD) framework which allows designated Financial Market Infrastructures (FMIs) to benefit from protections from insolvency actions. The government has announced that it intends to bring forward legislation to continue protections granted by the SFR which implement the SFD. This legislation would allow designations of financial market infrastructure (FMIs) that are outside of the UK and give powers to the Bank of England to designate these FMIs. This legislation will also provide for a temporary regime that would enable certain non-UK FMIs to continue to benefit from UK protections currently provided for by the EU Settlement Finality Directive. Without EU action to designate UK FMIs, EU settlement finality protection for UK FMIs will cease to be in place. This will mean that EU customers will present higher risks to these FMIs and may no longer be able to access their services.
Without action from the EU, when the UK leaves the EU, UK trading venues would no longer qualify as EU trading venues. This means that, under their national law, EEA firms may not be able to be members of UK venues. UK venues will also not be eligible venues for EEA firms to execute certain equity and derivatives trades. This may prevent EEA firms from being able to trade in certain derivatives, where there is no alternative venue available in the EU. This would reduce market liquidity in the UK and EU.
EU market operators that currently passport into the UK do not have to be recognised by the FCA in order to have UK firms participate in their markets. However, EU market operators who undertake regulated activities in the UK should seek recognition as a Recognised Overseas Investment Exchange. In addition, UK-based firms may also no longer be able to undertake certain equity and derivatives trades on EEA trading venues. However, alternative UK and international venues exist, and would be available for UK market participants.
The government intends to give the FCA powers to authorise and regulate both UK and non-UK Credit Rating Agencies (CRAs) and Trade Repositories (TRs) after exit. The government intends to grant powers to the FCA to allow UK CRAs and TRs to convert their existing EU authorisation into a UK authorisation, so UK customers of both UK CRAs and TRs that convert will not have to take any action. If no action is taken by the EU, EEA firms will no longer be able to access these UK firms.
Unless the EU acts by endorsing or finding UK-based CRAs equivalent, the ratings of UK-based CRAs will no longer be able to be used in the EU for regulatory purposes when the UK exits the EU. The government is legislating to bring in a temporary regime in order to minimise the impact on UK customers of both EU CRAs and TRs.
The same government paper elaborates similar broad and deep changes that could hit the banking and insurance sectors, if there is no deal agreed in the next seven months.
There is no conclusion to this story, only careful monitoring. The consequences of exit without a deal are enormous for Thomas Murray’s clientele.
Further details of the regimes for TRs and CRAs are expected to be provided by HM Treasury in September 2018. More detailed guidance on financial services can be expected very regularly in the months leading to exit.
The author, Thomas Krantz, is Senior Advisor, Capital markets, in the firm of Thomas Murray; and served as Secretary General of the World Federation of Exchanges (2000-2012). The views expressed are his own, and not necessarily those of the firm.