On December 20, 2022, the European Securities and Markets Authority (ESMA) published guidelines to enhance the harmonization and standardization of reporting under EMIR with broader global standards. The rules are being rewritten to enhance transparency and increase data quality in the reporting process. The guidelines have a broad impact across trade, transaction, life-cycle events, position, collateral, and valuation reporting. The new rules and guidelines, which are slated to go into effect on April 29, 2024, highlight ongoing collaboration amongst the three major regulators—the SEC, the CFTC, and ESMA—in their efforts to achieve global standards and consistency.
Aite-Novarica Group believes that some of the approaches and details in the regulations could be crafted in ways that achieve their goals while easing the compliance process by the reporting firms. The regulators and the industry have been working together since the 2008 credit crisis to bring clarity to the reporting rules.
Six areas where we believe ESMA could have provided more clarity and will receive significant input from the market are as follows:
- ISIN vs. UPI: ESMA is mandating the reporting of ISINs generated from ANNA-DSB and UPI, but the CFTC and SEC are relying on UPI and not mandating the ISINs. Without a clear strategy for aggregating trading data from the venues, the use of ISINs is limited in the reporting process and is not used in any trade processing functions. Similarly, the ISIN does little to create broader transparency as access to the ISIN data field definitions is currently restricted.
- Reconcile before reporting or after reporting: Regulators need matched data from the counterparty, so the submissions of both parties to the trade should mirror each other. ESMA has adopted reporting on T+1, but the data quality is still an issue. It could be more effective if the regulators allow the industry to reconcile the submission on T+1 with other counterparties and then submit the details on T+2 to the trade repositories. Further consideration of the mandated use of electronic confirmation platforms’ capability to report the trade details would have reduced the errors in submission.
- Valuation reporting: ESMA specified a tolerance limit of 5% on the mark-to-market trade valuation of outstanding notional exposure against the counterparty. Ideally, the valuation exposure calculation model involves measuring counterparty credit risk. All other factors being the same, a firm with a higher credit rating views its probability of loss more against a lower-rated counterparty. Thus, the valuation reported to regulators with a 5% tolerance may not be the same as the one used by firms to value the exposure in the risk models. Again, there is an opportunity for the confirmation or collateral technology solutions to match the valuation numbers on T+1 and then report to regulators, leading to a reduction in submission errors.
- A missed opportunity to build confidence in regulatory data quality: Regulators could consider publishing weekly data quality statistics to indicate the progress in improving the data quality. A set of simple indicators, such as the number of times the trade could not be matched due to the buyer/seller mismatch or the number of times the execution date/time stamp does not match, would provide key performance indicators and highlight opportunities for market improvement.
- Rules interdependency: Regulators should publish the interdependency of the message types mandated under the regulation for reporting. For example, message type – Correction, is used to reinstate the various life-cycle events for a period instead of at a point in time. A rule at the trade repository level to identify the dependency of the correction message type on valuation and collateral messages could have generated alerts for firms to resubmit the updated valuation and collateral messages.
- Correcting regulatory reporting lacks guidance: Regulators have shared excellent guidance on daily reporting. But U.S. and EU regulations are less clear on how to support corrected trade data reporting. Regulators are mandated to receive every data element correctly, and this means reestablishing the entire trade history day over day. Though there is no easy answer to this problem, a dedicated regulatory and industry discussion on this could lead to some basic principles to support a consistent and streamlined way to correct trade history.
We look forward to more guidance from the regulators such as Q&A and reports on data quality to comply with the regulations. Have thoughts on ESMA’s announcement? Let me know at [email protected].