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This newsletter aims to brief a wider community, particularly professionals in the early stage of their careers in the capital markets, on some of the issues where ICMA is engaged on behalf of its members. E-mail us at futureleaders@icmagroup.org to comment.

 

MiFID II the first year | Developing a European framework for covered bonds | Why is the repo market important?

 

MiFID II the first year


 

Key Takeaways

The introduction of MiFID II and MiFIR on 3 January 2018 had a profound impact on the European bond market.
 
ICMA published recently a report reviewing the actual impact of the MiFIDII/MiFIR a year after implementation.
 
The report concludes that the European bond market continues to function with little or no visible impact on liquidity. Yet MiFIDII/MiFIR is yet to deliver its objectives of improved investor protection, greater transparency and a more competitive landscape.
 
 
 
 

The introduction of the second Markets in Financial Instruments Directive (MiFID II) and Regulation (MiFIR) on 3 January 2018 was flagged as the most significant development to impact European bond markets in memory, with new requirements affecting everything from how new issues are marketed, to transaction reporting, trade transparency, secondary market structure, evidencing best execution, and even how fixed income research is distributed and consumed. Despite anxiety in the market in the lead-up to implementation about how the new rules should be interpreted and implemented, in the first weeks of January 2018 it became clear that for European bond markets it was business as usual, and the market continued to function with little or no visible impact on liquidity.
 
The main conclusion of the report is that, while the European bond markets continue to function, MiFID II/R is yet to deliver on its objectives of improved investor protection, greater transparency and a more competitive landscape.
 
From a primary market perspective, the obligations regarding allocation justification recording, and disclosures of costs and charges have had little substantive impact other than an additional administrative burden. The interplay of product governance (and PRIIPs) regimes for capital market participants have proved challenging to implement. The introduction of these regimes has been followed by a marked drop in low-denomination bond issuance, limiting the investment possibilities for retail investors. In secondary markets, one of the objectives of MiFID II/R was to encourage more trading on regulated venues rather than in the OTC market, and there is evidence that this has been the case. Liquidity and market functioning appear to have been maintained in the wake of the regulation. However, there are ongoing issues, particularly with respect to the transparency regime and the accessibility and quality of pre- and post-trade data.

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Developing a European framework for covered bonds

Covered bonds are a cornerstone of long-term finance in Europe. They are securities issued by financial entities that have their cash flows collateralised by assets such as mortgages or public sector loans, as well as their day-to-day business cash flows. The holders of these bonds have preferential claim over other creditors, regarding the reimbursement of the cash flows. The existing EU regulatory architecture has accentuated the favourable treatment of covered bonds.

As part of its capital markets union action plan the European Commission launched on 12 March 2018 their long-awaited legislative proposal on covered bonds, in the form of a directive on covered bonds and a regulation on CRR exposures to covered bonds. The proposed directive builds on detailed reports in 2014 and 2016 by the European Banking Authority (EBA).

The directive specifies the core elements of covered bonds and provides a common definition as a consistent and sufficiently detailed point of reference for prudential regulation purposes, applicable across financial sectors. It will establish the structural features of the instrument, a covered bond specific public supervision, rules allowing the use of the “European Covered Bonds” label and competent authorities’ publication obligations in the field of covered bonds.

The ICMA AMIC Covered Bond Investor Council (CBIC) is the covered bond investor representative body, independent of both issuers and the market, which AMIC supports with secretariat and administrative services. It is engaged in all aspects of regulatory and market developments.

CBIC welcomed the development of a European legislative framework for covered bonds as harmonisation will not only consolidate and codify high standards in Europe but could act as a spur for more non-EU countries to issue covered bond laws. The CBIC issued its position in early May 2018, focusing mostly on the directive.

The European Parliament’s Economic and Monetary Affairs (ECON) Committee voted and approved their reports on the covered bond directive and regulation on 19 November 2018. Separately the Council has also adopted its general approach, covering both the directive and the regulation. This means that the trilogue negotiations can now start between the European Parliament and Council, with agreement expected in the coming months.

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Key Takeaways

Covered bonds are a cornerstone of long-term finance in Europe.
 
The European Commission has launched its long-awaited legislative proposal on covered bonds on 12 March 2018.
 
ICMA is involved in the legislative proposal through the ICMA Covered Bond Investor Council, the covered bond investor representative body.
 
The CBIC welcomes the development of a European legislative framework for covered bonds.
 
The legislative process is now at trilogue phase, when negotiations between European Parliament and European Council start.
 
 
 
 
 

Why is the repo market important?


 

Key Takeaways

A well-functioning repo market also supports liquidity and helps improve the efficient allocation of capital in the real economy.
 
Data and trends in the repo market have been available through the ICMA ERCC repo market surveys since 2001.
 
Having the right collateral in the right place at the right time and of the right quality depends on collateral movements through the secured financing (repo) market.
 
The Securities Financing Transactions Regulation (SFTR) is the last piece of the regulation of the repo market.
 
 
 
 

Repo markets play a key role in facilitating the flow of cash and securities around the financial system, with benefits to both financial and non-financial firms. A well-functioning repo market also supports liquidity in other markets, helps to improve the efficient allocation of capital and reduces the funding costs of firms in the real economy. Ten years after the fall of Lehman Brothers the market is reflecting on the crisis, but still needs to pay more attention to this essential activity that helped the market recover, and which will support the new regulatory architecture of securities’ markets.

Data and trends in the repo market have been available through the ICMA ERCC repo market surveys that have been compiled twice a year since 2001. The surveys show that immediately after the Lehman event the value of outstanding repo unsurprisingly dropped considerably. The subsequent roll-out of various regulatory and prudential rules forced banks to reassess their balance sheet, and the use of collateral has become a key component of the new regulatory structure, and led to the recovery of the repo market.

The shift toward financing for the real economy as envisaged by the Capital Markets Union project and the implementation in the EU of EMIR, Basel III, MiFID II, CSDR, and others require a sufficiently fluid collateral market. Having the right collateral in the right place at the right time and of the right quality depends on collateral movements through the secured financing (repo) market. The push by the authorities towards centralised clearing and bilateral margining has created added collateral demands. The electronification of the repo market through these new initiatives should appeal to the whole market.

The Securities Financing Transactions Regulation (SFTR) is the last piece of the regulation for repo. The SFTR’s 150+ data fields present some challenges for the industry and may not provide adequate data. The market is in favour of increased transparency and of combining SFTR data with information obtained through MiFID II/R, EMIR and the emerging Post Trade Risk Reduction Services, to improve it in more meaningful way.

What is ICMA doing to support the repo market?

ICMA’s European Repo and Collateral Council (ERCC) brings together the active participants in the European repo market, both buy and sell-side, to promote best market practice and provide information and education. ERCC general meetings happen twice a year and are open to anyone with an interest in the market.

ICMA and the ERCC sponsor the Global Master Repurchase Agreement (GMRA), the most predominantly used standard master agreement for repo transactions in the cross-border market.

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New FinTech applications in bond markets

ICMA is continually updating a list of examples of new fintech applications in bond markets from public sources, such as press announcements. The examples range from distributed ledger technology, artificial intelligence/machine learning, big data analytics or cloud computing which have significant potential to alter the lifecycle of bonds, from issuance, trading to settlement, and impact the functioning of financial markets.

View listing of new FinTech applications in bond markets

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The Winner of the IFL Essay Competition

This summer ICMA asked young professionals with a maximum of 8 years of experience in financial markets to write an essay on the broad theme ‘How will the international bond markets look in 10 years’ time?’, in time for ICMA’s 60th anniversary in 2028.

The ICMA Executive Committee, market practice and regulatory policy team and representatives of the Future Leaders Committee have chosen the winning essay written by, Alexander Malitsky of TD Securities, who will receive the €3,000 prize and also have the opportunity to present his paper to the ICMA Board.

Alexander introduced his essay as “another boring big data paper from a millennial telling me how Snapchat will take over the global bond markets”. Of course his essay is far from boring, refreshingly challenging the current status quo of (under)usage of data, and presenting a realistic evolution of Debt Capital Markets anchored in more personal and insightful interactions with clients through a fully efficient gathering and categorising of any data available.

He does wonder in his conclusions whether bankers really have to invest in a clearer and more thorough data pool; whether issuers really care about the ‘true’ insights a bank has or is it actually ‘peoples business’ and soft selling skills are actually much more important than the thorough analysis of investor behaviour and markets; and more importantly whether it is really going to lead to more mandates and more business. Interesting discussion points for the ICMA Board to ponder looking ahead at the next 10 years.

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