Time does not heal all in the case of Settlement Discipline Regime extension

The delay from ESMA may not have gone far enough according to some market experts who believe challenges persist despite time extension.

The delay of the Settlement Discipline Regime (SDR) in Europe by six months will not solve the challenges the industry faces through the introduction of the new regulation, experts have claimed.

Earlier this month, European Securities and Markets Authority (ESMA) actioned the postponement of the Central Securities and Depositories Regulation’s (CSDR) SDR after intense lobbying from industry bodies.

Readiness across the industry is reported to be low in terms of IT, operations and legal work, as is the understanding of the reasons why trades fail and how market participants will handle a sharp increase of buy-ins they will have to perform.

A consortium of trade bodies also pressed to the regulator that mandatory buy-in regime will have significant negative implications on both trading and liquidity across asset classes. One of those organisations was the Association for Financial Markets in Europe (AFME), and its managing director for post-trade, Stephen Burton, says the delay does not go far enough to make a difference.

“The proposed delay does not resolve some of the fundamental challenges currently posed by the implementation of the CSDR Settlement Discipline Regime,” he said.

“For example, the recent joint trade association letter was seeking a different route – via a delay to the implementation of cash penalties, calling for an analysis of their effect together with an impact analysis of the potential impact of mandatory buy in, and if the decision was taken to implement the buy in, to work through the CSDR Refit process to amend from a mandatory to a voluntary right.

“All of the above seek to reduce the impact to trading both in price and volatility but these challenges will not be resolved by a delay.”

ESMA said the delay would allow for sufficient time for market participants and authorities to make the necessary IT system changes, to develop and update the relevant ISO messages, and to put in place the legal arrangements. But one industry expert believes the biggest issue is at the custodian level.

“The main challenge is that custodians are struggling to access the granularity of information needed to assess the financial instruments that could fail to settle under CSDR,” said Heiko Stuber, senior product manager at SIX.

“While they may be able to get cash amounts from the failing settlement counterparty, a custodian can’t easily get hold of the reference and price data being used to work out exactly how the penalties were calculated. This includes really important insights such as how to determine the market valuation of any given instrument, not to mention the closing price of the most relevant market within the EU.”

Meanwhile, Daniel Carpenter, head of regulation at Meritsoft, believes preparations were underway for September 2020, the original implementation date, and won’t be altered by the delay.

“A delay was being talked about previously, but many participants had already planned their CSDR project delivery to take place in 2020,” he explained. “As a result, this short extension doesn’t affect their preparations, with houses focused on finalising their projects before the end of the year. The houses we are speaking to have ramped up their resources, as well as their plans, and are focused on parallel runs to improve fails management processes and client engagement, well in advance of this new date.”

The postponement has been proposed in a final report which has now been submitted to the European Commission. Following the endorsement of the RTS by the European Commission, the Commission Delegated Act will be sent to the European Parliament and Council for final scrutiny. The delay did come as welcome news to one organisation which had been actively voicing concerns over the impact of SDR and the readiness of the industry.

“In postponing the implementation of the CSDR settlement discipline regime, including the mandatory buy-in regime until February 2021, ESMA has acknowledged many of the challenges that we have been highlighting for some time,” said Andrew Dyson, CEO.

“The extension of the implementation timeline gives the industry and relevant interested stakeholders, the opportunity to reassess how certain elements of the legislation will work in practice. It also provides for more time for the necessary IT and legal work that is required across our markets. Whilst delays are not something we would normally support, in this case I think this is a pragmatic and welcome decision.”