UK/EU Investment Management Update (June 2020)

The Government is seeking a similar type of agreement to that which the EU has concluded in recent years with Canada and other friendly countries. The Draft Agreement draws on previous EU agreements such as the Comprehensive Economic Trade Agreement, the EU/Japan Economic Partnership Agreement and the EU/South Korea Free Trade Agreement.

Chapter 17 of the Draft Agreement deals with financial services, which notably includes preventing cross-border trade barriers in financial services (Article 17.5), regulatory transparency (Article 17.10) and the prudential carve-out (17.13). Detail on transparency, consultation, suspension and withdrawal of equivalence decisions can be found in Article 17.19 on regulatory cooperation.

It is important to note that the Draft Agreement is simply a starting point to negotiations with the EU and merely comprises the UK’s suggestions. The finalised comprehensive free-trade agreement requires approval from the EU and may substantially differ from the current Draft Agreement.

House of Commons Library update on UK-EU treaty negotiations

On 27 May 2020, the House of Commons Library published a report providing an update of the negotiations on the future UK-EU relationship and a brief overview of the draft new partnership treaty the EU proposed on 18 March 2020 (referred to above).

The ongoing COVID-19 pandemic has caused significant disruption to the original negotiation timeline, and there are concerns that the deadline for concluding an agreement is no longer feasible. The Scottish and Welsh governments have called for an extension to the post-Brexit transition period to give more time to negotiate an agreement, which is due to expire on 31 December 2020. The deadline for agreeing an extension to the transition period will pass on 30 June 2020, but the government has legislated to prohibit itself from seeking an extension.

Part Two, Title VI, Chapter Five, Section 5 of the EU’s draft new partnership treaty deals with financial services. This section provides substantially less detail on financial services than the subsequent Draft Agreement from the UK but contains a similar provision for the prudential carve-out (Article SERVIN 5.39) and a number of provisions aimed at preventing cross-trade barriers.

The links to each EU member state’s (and the European Securities and Markets Authority’s, or ESMA’s) press releases on the bans are below:

1. Austria – FMA
2. Belgium – FSMA
3. France – AMF
4. Greece – HCMC
5. Italy – CONSOB
6. Spain - CNMV
7. ESMA

The AMF and Consob each stated that “Should the markets’ situation require it, the Authority calls for coordinated European action.”

For an analysis of the above bans, please refer to an updated version of our Update EU Bans on Short Positions – Implications for Market Participants.

Note that ESMA’s Decision (see Sidley Update from 16 March 2020) requiring net short positions holders to report new net short positions at the reduced threshold of 0.1% remains in force and is scheduled to last until 16 June 2020. And, of course, the existing rules/bans in the Short Selling Regulation itself (e.g., ban on uncovered short sales of shares and sovereign debt, ban on uncovered sovereign credit default swaps) remain.

ESMA updated opinions on post-trade transparency and position limits under MiFID II / MiFIR

On 3 June 2020, ESMA published two updated opinions (with related annexes) in relation to third country trading venues under MiFID II and the Markets in Financial Instruments Regulation (MiFIR); one on post-trade reporting and the other on position limits.

In the opinion on post-trade reporting (relating to Articles 20 and 21 of MiFIR), ESMA notes:

“14. … Investment firms concluding transactions in ToTV instruments on third country trading venues not included in the Annex to this opinion are required to make those transactions post-trade transparent via an APA under Articles 20 and 21 of MiFIR by 3 October 2020.”

In the opinion on position limits (relating to Article 57 of MiFID II), ESMA notes:

“13. … the Annex to this opinion sets out a list of trading venues that meet the criteria stated in paragraph 11. Hence commodity derivatives traded on those venues should not be considered as OTC trades for the purposes of the position limit regime. This list will be updated on an ongoing basis.

14. Commodity derivatives traded on venues absent from the list should be considered as OTC trades for the purposes of the position limit regime from 3 October 2020.”

In each opinion, ESMA confirms that any identification of trading venues for the purposes of the consistent application of the MiFID II post-trade transparency requirements or positon limits regime does not in any way prejudice an equivalence assessment performed by the European Commission under MiFID II/MiFIR and, in particular, any equivalence assessment of third-country trading venues for the purposes of the trading obligations for shares and derivatives, in accordance with Article 25(4)(a) of MiFID II and Article 28(4) of MiFIR. The equivalence assessment is a key part of the Brexit negotiations between the UK and EU.

UK trading venues are not included in the annexes to the above opinions; it is reasonable to assume that the annexes will be updated later in the year to add UK trading venues. Given the UK is still within the Brexit transition period, the FCA would be expected to follow ESMA’s opinions in relation to these matters until the transition period ends on 31 December 2020.

In particular, the TR Q&A 54 clarifies:

• what are the reportable details that the NFC- should provide to the FC
• how the FC should proceed if the NFC- does not renew its legal entity identifier
• how the FC should proceed if an NFC that has been classified as an NFC+ changes its status to NFC- and fails to timely inform the FC of this fact
• how FC and NFC- should proceed if they report to two different trade repositories

ESMA final report on FRANDT commercial terms for clearing services

On 2 June 2020, ESMA published its final report providing technical advice to the European Commission on how to specify the conditions under which the commercial terms are to be considered to be fair, reasonable, nondiscriminatory and transparent (principles known as FRANDT) when providing clearing services. As background, EMIR Refit introduces into EMIR the requirement for clearing service providers to offer and provide clearing services under commercial terms in accordance with the FRANDT principles by June 2021. To this end, the commission is empowered to adopt a delegated act specifying the FRANDT criteria, with input from ESMA in the form of technical advice.

As the FRANDT regime will be directly applicable only to clearing members and their clients that provide clearing services, buy-side firms in general should not be directly subject to the FRANDT requirements but, rather, will benefit from the FRANDT principles when receiving clearing services from June 2021.

With regard to the territorial scope of the FRANDT regime, ESMA notes in the final report that “considerations on the scope of FRANDT are not within the mandate given to ESMA”. Nevertheless, ESMA expresses its support of FRANDT applying to “any clearing member, both established in the EU or not and to any client, both established in the EU or not” where providing clearing services “in the EU” (unhelpfully, this term is left undefined in the final report) with respect to a non-EU recognised central counterparty or an EU authorised central counterparty.

Burford Capital v London Stock Exchange

On 15 May 2020, the Commercial Court (Andrew Baker J) handed down judgment in Burford Capital Limited v London Stock Exchange Group plc, a decision concerning, at its core, market manipulation.

Burford Capital (Burford) provides funding for lawyers and clients engaged in litigation and arbitration, and its shares are quoted on the AIM market of the London Stock Exchange (LSE). In August 2019, Muddy Waters, a U.S. investment advisory business with a short position in Burford, published a report critical of Burford, and across the relevant period its share price collapsed. Burford alleged that the price had collapsed not only because of this short attack but also because its share price had been artificially depressed by unlawful market manipulation, in particular “spoofing” and “layering”. By contrast, the LSE and the FCA had both independently analysed trading across the relevant period and had concluded, contrary to Burford’s allegations, that there was no evidence of any market manipulation.

Burford sought an order for the LSE disclosing the identities of those trading in its securities so that it could further analyse the data and bring claims against any wrongdoers.

Burford’s claim failed. The Court found that Burford had no cause of action, that there was no good reason to suppose that any market manipulation had occurred and that even if Burford had established a good arguable case of market manipulation, the court would in its discretion have refused to grant the relief sought. The order (if granted) would have been unprecedented in the context of EU financial markets and (the LSE maintained) had the potential to damage the legitimate interests of innocent market participants.

The Grid will be updated at least twice a year, with the latest version being made available here. The FCA has said that in future editions it intends to extend the timeframe to 24 months. The Grid is being run as a one-year pilot exercise, and firms are encouraged to engage with the regulators and provide feedback.

The Grid also contains a key identifying whether the implementation of new regulations will drive a low, medium or high operational impact ono financial services firms. The Grid is intended to be a live document, with the Forum continuing to monitor the current situation. The Forum make it clear that the timelines for the major initiatives are not confirmed and may be subject to delay.

At present, the Grid reveals that several initiatives identified in the FCA’s business plan have been pushed back to H2 2020, including consultations on the investment firm prudential regime (see this Sidley Update), operational resilience in the financial services sector, risk management of third-party outsourcing and policy work on the use and value of data in wholesale financial markets.

Statement on temporary relief for half-yearly financial reports for listed companies

The FCA confirmed additional temporary relief measures that will permit listed companies that need extra time to complete their half-yearly financial reports due to challenges arising from the COVID-19 pandemic an additional month (to a total of four months from the end of the period to which the report relates) in which to publish them.

The relief applies to an issuer (1) whose shares or debt securities are admitted to trading and
(2) whose “home state” is the UK.

This measure is intended to be temporary while the UK faces the disruption of the COVID-19 pandemic and its aftermath. The FCA will keep its application under review. When the disruption subsides, the FCA will announce how it will end the policy in a fair, orderly and transparent way.

Statement on market practice on going concern assessments

The FCA is aware that issuers may be worried about how to address COVID-19-related uncertainties in the ‘going concern’ assessment when producing financial statements. In these circumstances, market practice needs to be adjusted to reflect the circumstances that firms are facing. The FCA refers to its joint statement with the PRA and the FRC from 26 March 2020 and reiterated that market participants, including intermediaries, should not draw unduly adverse inferences from these disclosures, nor from issuers changing their financial calendars to make use of the increased flexibility in reporting deadlines.

Conflicts of interest and shareholder engagement

The FCA encourages industry members to work together to establish appropriate shifts in market practice during these times of uncertainty and continues to encourage issuers to engage with shareholders to ensure that investors are appropriately informed and aware of the issuer’s actions. The FCA also advises issuers to consider whether there are other ways to engage with and provide participation opportunities for shareholders as far as practicable.

The Action Plan includes, among other things, proposals for a single, EU-wide AML/CTF rulebook that will replace certain parts of the EU Money Laundering Directive with a directly applicable regulation covering (i) reporting obligations, (ii) requirements on customer due diligence, (iii) internal controls and (iv) beneficial ownership registers together with a proposal for an EU supervisory body that would be tasked with ensuring a consistent application and enforcement of AML/CTF rules. For further information about the Action Plan, please refer to our Update European Commission Announces New Action Plan on AML and CTF.

The amendments to the European Commission’s list of high-risk countries (the List) will take effect in two phases: (i) from 1 October 2020 in respect of the new countries being added to the List, and (ii) 20 days after publication in the EU Official Journal in respect of those countries’ being deleted from the List. The countries that have been

(i) added to the List are the Bahamas, Barbados, Botswana, Cambodia, Ghana, Jamaica, Mauritius, Mongolia, Myanmar/Burma, Nicaragua, Panama and Zimbabwe

(ii) de-listed are Bosnia-Herzegovina, Ethiopia, Guyana, Lao People’s Democratic Republic, Sri Lanka and Tunisia

The amended List will be relevant for firms’ AML/CTF risk assessments on clients and for determining whether to apply enhanced due diligence in any case. Firms should plan updates to their AML/CTF policies and procedures accordingly. Given that some fund managers use the Bahamas as the domicile for their funds, such managers should consider the implications of the addition of the Bahamas to the List.

The proposed guidelines set out:

• the governance, documentation, oversight and monitoring mechanisms that firms should have in place;
• the assessment and due diligence which should be undertaken prior to outsourcing;
• the minimum elements that outsourcing and sub-outsourcing agreements should include;
• the exit strategies and the access and audit rights that should to be catered for;
• the notification to competent authorities; and
• the supervision by competent authorities.

The consultation is open until 1 September 2020, and ESMA aims to publish the Final Report on the Guidelines by Q1 2021.

The commission explained that to deal with the unique COVID-19 crisis, it has had to adopt 291 decisions and other acts that were neither planned nor featured in the original Commission Work Programme. Further new policy initiatives to foster recovery will be announced later this year, but the Recovery Plan will play a key role in providing “fast, flexible support and investment where it is most needed”.

Commission Work Programme changes

The new timetable for the initiatives set out in the Commission Work Programme is found in its Adjusted Annexes. The below sets out an overview of the status of several key initiatives:

• Initiatives maintained:
  • MiFID II/MiFIR including consolidated tape: still planned for Q3 2020
  • review of the Benchmarks Regulation: still planned for Q3 2020
  • Digital Finance and Retail Payments Strategies (remains Q3 2020)
  • review of the Network and Information Systems Directive (remains Q4 2020)
• Initiatives delayed:
  • action plan on the Capital Markets Union: delayed from Q3 to Q4 2020
  • renewed sustainable finance strategy: delayed from Q3 till Q4 2020
  • review of the Nonfinancial Reporting Directive: delayed from Q4 2020 till Q1 2021
  • review of the Capital Requirements Regulation: delayed from Q2 till Q4 2020
  • confirmation that the legislative follow-up to the White Paper on Artificial Intelligence will be published in Q1 2021

The Commission also noted that deadlines for consultations and feedback opportunities on initiatives to be delivered in 2020 or early next year will be extended, up to an additional six weeks when possible.