Structured products legal and regulatory bulletin: March 2020

Please click on the links below to jump to the relevant section:

• ESMA publishes list of thresholds below which a prospectus is not required
• Prospectus Regulation Q&A updated by ESMA
• ESMA publishes final report on the effects of MiFIR product intervention
• Trade association letter to the European Commission regarding PRIIPS RTS
• EMMI authorised to provide and administer EONIA
• ESMA briefing on BMR recognition regime
• BMR Q&A updated by ESMA
• ESMA final report on draft RTS amending Prospectus RTS Regulation
• BaFin Guidance Notice on prospectus and authorisation requirements
• BaFin guidance on dealing with sustainability risks
• BaFin guidance on Solvency II reporting
• New decree regarding PRIIPs filing
• LuxSE updated rules and regulations and standard KYC/AML forms
• Guide to the new prospectus regime
• FCA LIBOR warning: “Next steps for LIBOR transition in 2020: the time to act is now”
• FCA publishes annual Sector Views
• FCA publishes “Dear CEO” letter relating to supervision of benchmark administrators
• New ISDA consultation on pre-cessation fallbacks
• ISDA and Bloomberg publish IBOR Fallback Rate Adjustments FAQs
• AFME and Simmons & Simmons publish white paper on managing conduct risk during LIBOR transition
• ICMA quick guide to transition to RFRs
• ICMA report on the impact of MiFID II and MiFIR
• Working Group on sustainability/KPI-linked bonds

EU

ESMA publishes list of thresholds below which a prospectus is not required

ESMA has published a document which specifies the thresholds in different Member States below which an offer of securities to the public does not require a prospectus. This has been prepared to improve transparency in respect of the different regimes across the Union given that Member States are permitted to apply a higher threshold than the minimum threshold specified in the Prospectus Regulation. The document also summarises requirements that may nevertheless apply in Member States in respect of offers below the applicable thresholds.

Prospectus Regulation Q&A updated by ESMA

ESMA has updated its Prospectus Regulation Q&A in relation to:

• The maximum length of summaries relating to multiple securities. ESMA has confirmed that the page limit may only be extended to a maximum of nine sides of A4-sized paper (assuming the issuer does not substitute parts of any KID for parts of the summary).
• The length of summaries where there are multiple guarantors. ESMA has confirmed that the page limit for summaries may be extended by up to one additional page per guarantor, provided that the additional pages must only be used for information on the guarantors.
• Inclusion of pro-forma summaries in base prospectuses. ESMA has confirmed that pro-forma summaries should not be included in base prospectuses.
• Application of disclosure annexes where the terms of securities mean that they do not fall clearly within an existing disclosure regime. ESMA's view is that, generally, the annexes which apply to existing types securities should be applied when preparing the prospectus for comparable securities. However, issuers should consider whether it is necessary to include additional information in the prospectus to satisfy the “necessary information test” in Articles 6(1) and 14(2) of the Prospectus Regulation.

ESMA publishes final report on the effects of MiFIR product intervention

ESMA has published its final report on the effects of product intervention measures under MiFIR, which is part of a wider report for the European Commission on the functioning of MIFID II and MiFIR.

ESMA introduced temporary product intervention measures in summer 2018 which banned the sale of retail binary options and introduced restrictions and requirements in relation to certain CFDs. These measures have since been made permanent in a number of Member States.

The report states that, with regard to binary options, there were no new authorisations for firms offering binary options to retail clients and National Competent Authorities (NCAs) reported limited non-compliance with the measures. In relation to CFDs, ESMA found that NCAs reported a decrease in trading volumes. For both binary options and CFDs, ESMA noted an increase in the number of clients treated as professional clients on request.

Other key points are summarised below:

• Structured products: In response to certain market participants suggesting that structured products should not be within scope of the measures, ESMA reiterated that product scope had been considered but that ESMA would welcome any examples of financial instruments or activities that participants do not consider should be in-scope of the measures.
• Areas for potential application: It will be of interest to certain market participants that the report refers to other areas in which ESMA may consider product intervention measures including financial instruments linked to crypto assets.
• Jurisdictional scope: The report notes the potential for confusion in determining the jurisdictional scope of measures introduced by NCAs and suggests that clarification from the Commission would be helpful where NCAs’ measures overlap. ESMA also refers to Q&A guidance on this point.

Trade association letter to the European Commission regarding PRIIPS RTS

EU trade associations Insurance Europe, amice, the European Banking Federation and the European Fund and Asset Management Association have published a letter to the European Commission in which they set out concerns regarding the European Supervisory Authorities’ consultation on proposed amendments to the PRIIPS RTS. The trade associations in particular cite insufficient consumer testing for presentation of performance information, compliance burden from piecemeal changes and balancing comparability of information with the provision of meaningful product information.

EMMI authorised to provide and administer EONIA

The European Money Markets Institute (EMMI) has been granted authorisation by the Belgian Financial Services and Markets Authority to provide and administer the EONIA rate for the purposes of the EU Benchmarks Regulation (BMR). EONIA now follows the revised methodology published last year which tracks the new Euro short term rate of the ECB (€STR). ESMA has now added EMMI to its register of benchmark administrators.

ESMA briefing on BMR recognition regime

ESMA has published a briefing regarding the recognition application under Article 32 of the BMR, which governs the recognition by NCAs of third country benchmark administrators in the absence of an equivalence decision in respect of the relevant jurisdiction. The briefing sets out a waterfall approach for determination and may be of interest to market participants which issue products which reference benchmarks administered in third countries.

BMR Q&A updated by ESMA

ESMA has updated its BMR Q&A in relation to:

• Use of reviews of IOSCO principles for pricing reporting agencies for the purposes of compliance with the BMR external auditing requirement for commodity benchmarks.
• The role and responsibilities of legal representatives in relation to third country benchmark administrators.
• Transitional provisions for third country benchmarks (to reflect extension to the transitional period).

ESMA final report on draft RTS amending Prospectus RTS Regulation

ESMA has published its final report on amendments to regulatory technical standards (RTS) in respect of the Prospectus Regulation. The RTS sets out disclosure requirements in respect of key financial information for prospectus summaries, provisions concerning advertisements and situations where a supplement to a prospectus is required, amongst other things. The amendment regulation will make minor modifications to the RTS to correct certain errors in the RTS.

Germany

BaFin Guidance Notice on prospectus and authorisation requirements

BaFin has published a guidance notice which deals with the nature of crypto-tokens and their classification as a security under the Prospectus Regulation (PR) or the German Securities Prospectus Act, or as an investment product under the German Capital Investment Act. The guidance note also covers potential obligations to prepare a prospectus or an information sheet as well as with authorisation requirements under the Banking Act, the Payment Services Supervision Act and the Investment Code.

BaFin guidance on dealing with sustainability risks

BaFin has published a guidance notice on dealing with sustainability risks. The guidance note provides entities supervised by BaFin with guidance on dealing with the increasingly important issue of sustainability risks. The guidance notice defines the term sustainability on the basis of ESG criteria and illustrates physical and transition risks that may unfold with increasing intensity through existing risk types. BaFin expects supervised entities to ensure that the relevant risks are adequately considered.

BaFin guidance on Solvency II reporting

BaFin has adapted its guidance on Solvency II reporting for primary insurance and reinsurance companies and insurance groups. The new guidance is mandatory for annual reporting in 2019 and for quarterly reporting from the first quarter of 2020. What is new is that companies must use certain objective product identifiers in the report form S.14.01 on their life insurance obligations.

Italy

New decree regarding PRIIPs filing

A new decree was published in the Italian Official Gazette on 10 January 2020 repealing the obligation to pre-file the PRIIPs KID with CONSOB.

CONSOB has 6 months to implement this before it is effective, so, for the moment, PRIIPs KIDs must still be filed.

Luxembourg

LuxSE updated rules and regulations and standard KYC/AML forms

The Luxembourg Stock Exchange has published updated rules and regulations and standard KYC/AML forms. The updated rules and regulations (available on the Luxembourg Stock Exchange’s official website) became effective as of 31 January 2020 and replaced version Edition 11/2018. The rules and regulations have been updated in particular to reflect changes resulting from the Prospectus Regulation and to take into account the LuxSE’s obligations with regard to identifying the beneficial owner(s) of issuers and other obligations in the framework of AMLD4 and ALMD5.

Guide to the new prospectus regime

On 9 December 2019, the Luxembourg Stock Exchange published a guide on its website on the New Prospectus Regime as applicable at European and Luxembourg levels.

UK

FCA LIBOR warning: “Next steps for LIBOR transition in 2020: the time to act is now”

The FCA has issued a number of papers, in conjunction with the Bank of England and the Working Group on Sterling Risk-Free Reference Rates (RFRWG), which reaffirm the objective of LIBOR ceasing at the end of 2021 and tour the horizon of what regulators expect to see firms achieving on an orderly transition to SONIA in 2020. The joint announcement is available here.

The key points coming out of the suite of documents are as follows:

1. Regulatory expectations and key dates in 2020:
In 2020, the FCA expects Senior Managers to focus on:

• ceasing issuance of cash products linked to GBP LIBOR by end-Q3 2020 (RFRWG roadmap available here);
• moving all new business in the GBP interest rates swaps market to SONIA from 2 March 2020 (announcement is available here); and
• significantly reducing the stock of LIBOR referencing contracts by Q1 2021.

2. Establishing a remediation framework for legacy contracts (including “tough” contracts):
Firms are strongly encouraged to focus on remediation strategies with a view to “significantly reducing” the stock of Sterling LIBOR linked contracts by Q1 2021. There is an acknowledgement that certain contracts will be challenging to remediate. In this regard firms are expected to encounter various practical challenges in remediating certain products, in particular those such as structured products for which consents may be required from third parties and/or securityholders.

3. SONIA term rates:
The RFRWG has consulted on the term SONIA reference rates (TSRR) (“Use Cases of Benchmark Rates: Compounded in Arrears, Term Rate and Further Alternatives” available here).

The prevailing view of the RFRWG is that SONIA, compounded in arrears, will be suitable for use and should be preferred for the majority of instruments. However, there is a material concession that for 10% (by value) of the GBP LIBOR market, compounded in arrears is not suitable and certain sectors will require either forward looking term rates or alternatives (for example a fixed rate or overnight Bank Rate may be preferred). The sectors identified are: export finance, emerging markets, mid-corporate, private banking and retail, trade working capital and Islamic finance.

4. Establishment of three new Working Groups:
The RFRWG is launching three new working groups focussing on:

• enablers to moving new loans issuance away from GBP LIBOR;
• frameworks to support transition of legacy cash products; and
• providing market input regarding the “tough legacy” of products that may prove unable to be converted or amended to include robust fallbacks.

5. Bond market consent solicitation:
The RFRWG has acknowledged the challenge of remediating legacy capital markets issuances and encouraged the use of consent solicitation where securityholder consent is required to transition to SONIA. (Progress on the Transition of LIBOR – Referencing Legacy Bonds to SONIA by way of Consent Solicitation, RFRWG (January 2020) – available here.)

The “Cash Market Legacy Transition Task Force” has been established to facilitate transition and has published six points for consideration in relation to the consent solicitation process. Among these the RFRWG notes that consent solicitations undertaken to date have not typically involved the payment of consent fees, which seems to suggest that this position is expected to be the norm.

The RFRWG also emphasises the importance of careful review of contractual documentation to ensure that consent solicitations observe associated requirements such as in relation to timing and sequencing. Issuers and product manufacturers will be aware of the practical challenges of implementing changes to securities through the consent solicitation process.

FCA publishes annual Sector Views

The FCA has published its 2020 Sector Views. The Sector Views identify areas of potential adverse impact and harm to consumers or the integrity of the financial system in different sectors.

In relation to structured products, the FCA notes that “…most significant consumer harm has come directly from growing consumer exposure to investment risk. Some consumers have ended up in products that exposed them to more risk than they expected or can afford. The process through which these products are distributed, and the support network around it, has not always worked well enough to enable consumers to make good decisions.” The FCA identifies insufficient availability of one-off transactional advice which may limit consumers’ ability to make investment decisions and that the sale of unsuitable or fraudulent high-risk products is the most significant cause of harm in the sector. The FCA also cites complexity as a potential cause of harm.

FCA publishes “Dear CEO” letter relating to supervision of benchmark administrators

The FCA has published a Dear CEO letter addressed to firms carrying out benchmark administration activities. The letter identifies the FCA’s view of the potential for harm that benchmark administrators could pose to customers and markets, citing the following areas of potential harm and related governance considerations:

• customers may receive sub-standard quality benchmarks (eg due to calculation errors or manipulation);
• market disruption could result from poorly managed cessation or recalculation of benchmarks or lack of operational resilience; and
• customers may pay excessive fees and charges.

ISDA and other trade associations

New ISDA consultation on pre-cessation fallbacks

Following correspondence from the FCA and ICE Benchmark Administration to ISDA around the possibility for LIBOR to cease to be representative for a period before LIBOR ceases to be available, ISDA has announced that it will re-consult on how to implement pre-cessation fallbacks (an early consultation did not achieve market consensus as to how to implement pre-cessation fallbacks).

ISDA and Bloomberg publish IBOR Fallback Rate Adjustments FAQs

ISDA and Bloomberg have published FAQs in relation to adjustments necessary to transition contracts from IBORs to risk-free rates (RFRs). Bloomberg’s function here is as the adjustment services vendor for ISDA’s fallback calculations – Bloomberg will calculate and publish term and spread adjustments for fallbacks that ISDA is expected to implement for certain IBORs and the FAQs provide further information on these services and how they are expected to be made available.

AFME and Simmons & Simmons publish white paper on managing conduct risk during LIBOR transition

AFME and Simmons & Simmons have published a white paper which provides practical guidance to Senior Managers and Legal and Compliance teams on managing the significant conduct risks posed to firms engaged in the transition from LIBOR to RFRs.

The paper is the first in a series which will identify ways in which firms can seek to mitigate key conduct risks and follows various related guidance and announcements from the FCA.

ICMA quick guide to transition to RFRs

ICMA has published a Quick Guide to transition to RFRs in the bond market. The guide is intended to summarise progress to date on key issues and provide links to relevant resources on the topic.

ICMA report on the impact of MiFID II and MiFIR

ICMA has published a report on the impact of MiFID II and MiFIR which follows an earlier report from 2018. The report is intended to provide an overview of the second year of MiFID II and MiFIR and reflect feedback from ICMA’s various membership. Of particular interest are the conclusions in the report in relation to the PRIIPs regime (and in particular the potential for relatively vanilla products to be caught by the regime) and the fact that its potential application may have led issuers to restrict placement of certain products to non-retail investors. ICMA also refers to the product governance regime as having “created an investor suitability obligation, not just at the point of sale (the approach taken in the past by regulation), but also imposing this obligation on issuers, underwriters, and secondary market sellers over the entire lifetime of the instrument”, thereby giving rise to significant compliance burdens. ICMA states that it intends to continue to engage with EU authorities to facilitate better-achieving the desired regulatory outcomes behind MiFID II and MiFIR.

Working Group on sustainability/KPI-linked bonds

ICMA has announced support for a working group established by the Executive Committee of the Green Bond Principles, the Social Bond Principles and the Sustainability Bond Guidelines. The working group has been established to cover emerging sustainability/KPI-linked bond products.

The announcement states that the remit of the working group “will be to (i) take stock of recent and ongoing developments in the market for sustainability/KPI-linked bond products (ii) establish their main characteristics including by using what has been developed in the Sustainability-linked Loan market; (iii) examine any concerns; and (iv) consider and potentially propose market guidance.”