European benchmarks regulation ‘BMR’ – the impact in the Americas

11 August 2017

The LIBOR and FX ‘fixing’ scandals undermined the reputation of global financial markets. As a direct consequence, European regulators have focused on corporate governance and culture as a means of improving standards of conduct and restoring trust in financial markets. In the UK, the administration of, and submission of data to eight specified benchmarks became a regulated activity for the first time.

A much more significant step, with global implications, has now come in the form of the European Union (EU) Regulation on Indices used as Benchmarks, commonly known as the Benchmarks Regulation or ‘BMR’. The regulation applies to EU-based administrators of, contributors of data to and users of benchmarks, but also to any firm, wherever based, whose indices or benchmarks are used within the EU, or who contribute data to benchmarks, and who wish those activities to continue.

As is so often the case, the regulation is complex and open to interpretation, yet comes into full effect soon – at the start of 2018.

The Regulation

The EU Benchmarks Regulation defines an index as a figure that is publicly available and is regularly determined, either by applying a formula to or making an assessment of a representative set of underlying data. A benchmark is an index by reference to which the amount payable by:

  • financial instruments traded on trading venues or via systematic internalisers in the EU; or
  • certain mortgage or consumer credit contracts

is assessed, or an index that is used by an investment fund (an EU UCITS or AIF) to:

  • track a return;
  • define the fund’s asset allocation; or
  • to calculate performance fees.

Three groups are affected:

1. Benchmark administrators

A benchmark administrator has control over the provision of benchmarks. They are responsible for the arrangements determining the benchmark, collecting and analysing the input data, determining the benchmark and publishing it. They are required to ensure they have robust governance arrangements in place to ensure their benchmark methodologies are appropriate, the calculation is accurate and that actual and potential conflicts of interest are managed properly. In addition, benchmark administrators must implement appropriate controls over the quality and retention of input data as well as establishing a code of conduct for contributors to comply with.

If non-EU administrators wish for their benchmarks to be usable within the EU they have three options open to them:

  • Recognition: comply with the above in full, then seek recognition within the EU by setting up a legal entity within the EU and applying to one of the national competent authorities.
  • Equivalence: be recognised by the European Securities and Markets Authority (ESMA) as being regulated by a non-EU regulator that has satisfied the equivalence requirements set out in the Benchmarks Regulation (including that the administrator is registered by ESMA and that prescribed co-operation arrangements are in place between the non-EU regulator and ESMA.)
  • Endorsement: having the relevant benchmarks endorsed by an EU-based supervised firm as meeting requirements at least as stringent as BMR, and having ongoing monitoring in place.

Crucially, benchmark administrators will find themselves needing to make strategic decisions balancing the benefits of continuing to administer the benchmark against the risks, governance and other costs associated with the new regulations.

2. Data contributors

A contributor under the BMR is a natural or legal person who:

  • contributes input data that is not readily available to the administrator, and
  • provides the input data for the purpose of a benchmark determination.

Both EU and non EU-based contributors to benchmarks that will continue to be used in the EU must ensure that conflicts of interest which arise in the process of contributing data to benchmarks are properly identified and managed, and can expect to be asked to adhere to codes of conduct for data submission given to them by the administrator of the benchmark to which they contribute.

3. Index/benchmark users

The BMR places requirements on EU-based users of benchmarks to ensure that the benchmarks they use are either regulated within Europe, endorsed by an EU-regulated entity or are deemed to be regulated under a non-EU but equivalent regulatory regime. Benchmark users will have to create robust written plans that set out the actions the firm will take if a benchmark materially changes or ceases calculation. Additionally, as supervised entities, users must ensure the benchmarks they use are fit for purpose, do ‘what they say on the tin’ and are suitable. Non-EU users are only affected in the possibility that some benchmarks may cease to exist.

What’s next?

We believe the full clarity on the application of BMR will not arrive until well after 1st January 2018, when most of its provisions come into effect. Additionally, various other jurisdictions are considering similar legislation, amongst whom Singapore and Australia are believed to be furthest along. The common thread binding these is likely to be the
IOSCO Principles for Financial Benchmarks, compliance with which is likely to represent much of the required effort for each jurisdiction’s eventual legislation. As such, our recommended first steps for US and Canadian firms who believe they may be affected are as follows:

  • For administrators, an assessment of BMR’s impact on their business, and if affected, an IOSCO “Principles for Financial Benchmarks” compliance review or gap analysis of their compliance with BMR as currently understood.
  • For data submitters, an analysis of their governance controlling the submission of data to benchmark administrators.
  • For benchmark users, to communicate with their EU benchmark providers to ensure continuance of provision.

Whether ultimately affected by BMR, by strengthening a firm’s governance standards, we believe the first two of these deliverables will provide positive outcomes.

Conclusion

The BMR is extremely broad, affecting organisations with footprints within the EU and those outside the EU, and has to some extent ‘flown under the radar’ given the regulatory focus on MiFID II and elsewhere. It will be a significant challenge for many firms to gain compliance in the short time available, but there are some key steps that can be taken
immediately that will ease the process down the line and that will be beneficial whether or not they are caught by the BMR.

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