Coming so close on the heels of MiFID II and EMIR, navigating the new SFTR reporting landscape will not be easy for market participants. Lynn Strongin Dodds looks at SFTR’s onerous reporting requirements and the hurdles attached to delegated reporting.
After several fits and starts, the Securities Financing Transaction Regulation (SFTR) was finally adopted by the European Commission last year. Assuming all the paper work is in order, the launch date is provisionally set for the second quarter of 2020, which legislation-weary participants will warn is no time at all. Lessons can be learnt from the European Market Infrastructure Regulation (EMIR) and other regulations, but new solutions may be required due to the expansive reporting obligations.
“Securities financing transactions are different than, for example, OTC derivatives, but banks will not have to start from scratch,” says John Philpott, an independent consultant. “There are synergies, and most are leveraging and building upon the infrastructure and reporting systems that they have in place for Dodd Frank, EMIR and MiFID II.”
However, some industry participants believe the bespoke nature of many securities financing transactions will make compliance more complicated than past rule sets. Their attributes—term, type and percentage of collateralisation, re-hypothecation and complex collateral chains, among others—are neither treated nor accounted for by counterparties in a uniform way. This can sometimes be true even across operations within a single firm.
As Paul Dobbs, managing consultant at Catalyst Development, points out, SFTR covers securities lending and repo bilateral trades, which are more complicated than many of the liquid instruments that fall under similar trade and transaction reporting regulations. “It may be harder to leverage some of the solutions implemented for MIFID and EMIR, because of the differences in architectural design (including booking models), given they were originally designed for high volume, highly standardised products and not opaque, bi-lateral trades,” he says. “For example, repo trades have been reported in a certain way for years and the industry will be required to report in a much more detailed and granular way.”
The data challenge has been well documented but this does not make it any less onerous. “The SFTR mandates 155 data fields, compared to 129 required under EMIR for OTC derivatives and 65 for MiFID,” says Val Wotton, DTCC Managing Director, Product Development and Strategy, Derivatives and Collateral Management. “The number of fields may be more in line with EMIR but 40% of the 155 are not readily available today and firms will have to carry out an audit to locate the data. Also, the reporting will have to be submitted in a specific format – ISO20022 – for the first time and reconciliation will be required across 96 fields.”
To avoid the reconciliation problems that blighted EMIR trade reporting in the early days, firms will also need to prioritise the four fields required to pair the trade — Unique Trade Identifier (UTI), which is expected to be the thorniest obstacle, reporting counterparty, other counterparty and master agreement formats. There needs to be uniformity in the reporting of all these fields and while there are expected to be hurdles along the way, the generation and sharing of UTIs is expected to be the most challenging issue.
“Old-school” sec lending industry faces a steep learning curve
The technological learning curve will be long, mainly because the industry has escaped the regulatory limelight until now. “Most of the securities finance technology in place is old school—many have not been upgraded in years and are the last bastions of very old systems,” says Virginie O’Shea, research director at research and advisory firm Aite Group. “Even the modern systems are old compared to front-office technology. Most of the platforms and technology track securities lending and repo data separately and aggregating data for reporting will be difficult. Also, unlike many of the assets covered by EMIR, there are no best practice or data standards commonly adopted across financial institutions. It will be a painful process to prepare for SFTR.”
“Even the modern systems are old compared to front-office technology. Most of the platforms and technology track securities lending and repo data separately and aggregating data for reporting will be difficult. Also, unlike many of the assets covered by EMIR, there are no best practice or data standards commonly adopted across financial institutions. It will be a painful process to prepare for SFTR.” Virginie O’Shea, Aite Group.
Jonathan Tsang, SFTR Product Associate Director, at IHS Markit adds, “The OTC repo market, for example, is still manual compared to securities lending and a low percentage of the market is electronically matched post trade. SFTR will provide an opportunity for post-trade services to improve as the reporting is dual sided and requires greater transparency and granularity. It will be a journey and hard to predict how long it will take.”
Automation will be key, according to Mark Byrne, SFTR Product Specialist, EquiLend. “Given the volume and complexity of the data involved, anyone who does not leverage automation—either for trading, post-trade confirmation or lifecycle management—will encounter significant operational risk and needs to review their operating model immediately. Experiences from EMIR, coupled with our internal data-mining, show that having trade details matched at the point of trade will significantly reduce the downstream burden for comparison and reconciliation.”
Delegated reporting: pros and cons
It is no wonder that many buy-side firms, especially those that do not have deep pockets for the requisite technological investments, will turn to a third party. Delegated reporting is mandatory for small non-financial companies, but industry experts expect initially many buy-side firms, particularly the small to medium-sized ones, will look to agency lenders and sell-side partners in securities finance for these services. Others, especially the larger players, may eye this as an opportunity to establish some operational independence in the space and aim to accomplish SFTR compliance on their own.
However, whatever route taken, buy-side groups will need to ensure that they have the requisite monitoring systems in place as the proverbial buck stops with them. In other words, the regulator will hold them and not the third party accountable for the accuracy of trades reported on their behalf and the reconciliation of their internal systems with filings to external trade reporting repositories.
“Although delegated reporting sounds good in theory, it will create a lot of operational friction, because buy-side firms will still have to validate the reporting in-house,” says Gernot Schmidt, product manager regulation, at SimCorp, a solutions provider to the investment management industry. “This requires a fairly robust interface and oversight function, especially if they use different delegation platforms and tools. Firms will have to be able to look at what is being reported and tie it back to the original trade and then verify it. It is no surprise that firms are now trying to avoid this headache and looking to consolidate these workflows in-house.”
To date, vendors have been busy developing reporting and reconciliation solutions individually and in cooperation with their peers. As a result, Wotton believes that firms will have to look carefully at the different solutions in the market and ensure that they operate holistically. “We are working actively with our partners such as EquiLend and Trax, and IHS Markit and Pirum to leverage their solutions across our Global Trade Repository,” he says. “We are building the necessary pipes and connectivity to ensure our mutual clients are able to comply with the regulations quickly and cost effectively.”
EquiLend and Trax’s SFTR service will connect to DTCC’s GTR via Trax’s reporting hub for all SFTR-eligible asset classes, including repo, securities lending and margin lending. Meanwhile, IHS Markit and Pirum’s integrated service will link to GTR, providing data management and reconciliation capabilities. Since the announcement in June, the GTR ecosystem has added Broadridge, FIS Global, Murex, RegTek.Solutions and SimCorp to enable clients to benefit from straight-through reporting workflows and lower costs of implementation.
Looking ahead, once the regulation is embedded, there could be room for utilities for other aspects of the regulation. The Field Effect, for example, is leading a consortium to mutualise costs for testing. “A lot of testing will be needed and because it is common to all firms, it’s a good place to share costs,” says David Field, founder and managing director of the consultancy. “There will be two phases—one is to help businesses conduct their own SFTR user acceptance testing through standardised test data, expected results and benchmarking across 5,000 test permutations; and two is to re-use the UAT artefacts to standardise and coordinate industry-wide testing.”