The European Union Benchmarks Regulation ('BMR')

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Peregrine Perry
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1 The European Union Benchmarks Regulation ('BMR') 20 Sep 2018 The BMR regulates indices used as benchmarks in nancial instruments and nancial contracts (and/or to measure the performance of investment funds) and entered into force on 30 June 2016 most of the provisions came into effect on 1 January The regulation introduces a common framework and consistent approach to benchmark regulation across the EU. It aims to ensure benchmarks are robust and reliable, and to minimise con icts of interest in benchmarksetting processes. What is an index? The BMR de nes an index as a gure that is publicly available and is regularly determined, either by applying a formula or other calculation or making an assessment on the basis of the value of one or more underlying assets/prices (including estimated prices, actual or estimated interest rates, quotes and committed quotes, or other values or surveys). An index becomes a benchmark within the scope of the BMR where: it is used to determine the amount payable under a nancial instrument or nancial contract, or the value of a nancial instrument; and/or it is used to measure the performance of an investment fund for the purpose of: 1. tracking the return; 2. de ning the asset allocation of a portfolio, or 3. computing the performance fees.

2 The statutory framework As the national competent authority under the BMR, the Financial Conduct Authority ( FCA ) has powers to regulate certain activities in relation to benchmarks that are speci ed by HM Treasury. The relevant regulatory permissions concerning benchmarks are: 1. administering a speci ed benchmark; 2. providing information in relation to a speci ed benchmark; and 3. the more general permission of agreeing to carry on either regulated activity. Currently there are eight benchmarks issued by benchmark administrators the most commonly used benchmark is LIBOR ( London Interbank Offered Rate ). The FCA also regulates individuals contributing to LIBOR (the other seven benchmarks are not based on contributions). The other seven benchmarks are: ICE Swap Rate, Sterling Overnight Index Average, Repurchase Overnight Index Average, VM/Reuters London 4 p.m. Closing Spot Rate, LBMA Gold Price, LBMA Silver Price and the ICE Brent Index. An approved person performing the controlled function of benchmark submission needs to be t and proper for regulatory purposes and is subject to FCA supervision and enforcement, if applicable. Further, while rms (and individuals within rms) may not be administering a speci ed benchmark or providing information in relation to such a benchmark, they may be benchmark users and could be caught by the new requirements in any case. For example, a rm could be using a benchmark if it determines the amount payable under consumer credit agreements by reference to an index and/or issues (or are party to) a nancial instrument that references an index. This usage is discussed further, below.

3 It is worth noting that under the upcoming extension to the FCA s Senior Managers and Certi cation Regime, a similar approval may need to be held by a senior manager in respect of benchmark activities. The BMR in brief As noted above, the principal objectives of the BMR are to restore investor and consumer con dence in the accuracy, robustness and integrity of indices used as benchmarks, after index manipulation episodes including LIBOR and FX. The BMR groups benchmarks into six different types: Critical benchmarks: the value of contracts underlying the benchmark is at least 500bn, or where a benchmark has been recognised as critical in an EU Member State. LIBOR has been denoted under the BMR as critical. Signi cant benchmarks: the value of contracts underlying the benchmark is at least 50bn, or where there are no or very few market-led substitutes and there would be an impact on nancial stability if the benchmark ceased to be produced. Commodity benchmarks: the underlying asset of the benchmark is a commodity, as de ned by the Markets in Financial Instruments Directive II (commonly known as MiFID II ). Broadly, commodity benchmarks are subject to the requirements set out in Annex II of the BMR (unless they are regulated data benchmarks, below). Regulated data benchmarks: input data to the benchmark is provided directly from regulated venues. Certain provisions of the regulation do not apply to regulated data benchmarks, and they cannot be classi ed as critical. Interest rate benchmarks: the benchmark is determined based on the rate at which banks may lend to, or borrow from, other banks or agents in the money markets. Interest rate benchmarks are subject to the requirements set out in Annex I of the BMR.

4 Non-signi cant benchmarks: the value of contracts underlying the benchmark is less than 50bn, and the benchmark is not a commodity or interest rate benchmark. Practical implications for rms Broadly there are three categories of users affected by the BMR, speci cally benchmark: administrators, contributors and users. Under the BMR, the de nition of provision of a benchmark comprises three activities: administering the arrangements for determining a benchmark. collecting, analysing or processing input data for the purpose of determining a benchmark. determining a benchmark through the application of a formula or other method of calculation or by an assessment of input data provided for that purpose. A contributor is de ned as a natural or legal person contributing input data. It follows that this input data is used by the administrator to calculate a benchmark. There are certain compliance and governance provisions in the BMR that apply to contributors. Unlike benchmark administrators, the BMR does not require benchmark contributors to apply for authorisation or registration. While the BMR does not de ne benchmark user, use of a benchmark is de ned in a number of ways for example, issuing a nancial instrument that references an index or a combination of indices. Firms should take a cautious approach: it may not always be obvious that they are benchmark users, and analysis will need to be undertaken to ensure compliance with the BMR as appropriate. More on LIBOR

5 LIBOR is a benchmark rate produced for ve currencies (the U.S. dollar ( USD ), euro ( EUR ), pound sterling ( GBP ), Japanese yen ( JPY ), and Swiss franc ( CHF ); with seven maturities quoted for each. These maturities range from overnight to 12 months, producing 35 rates each business day, based on submissions from a reference panel of between 11 and 16 banks for each currency. The benchmark rate provides an indication of the average rate at which a LIBOR contributor bank can obtain unsecured funding in the London interbank market for a given period, in a given currency. Previously, LIBOR was formally known as bba LIBOR given it was administered by the British Bankers Association (the BBA is now called UK Finance). NYSE Euronext took over the administration of LIBOR from the BBA in 2013/14 and, having taken over NYSE Euronext, Intercontinental Exchange Group became the new administrators in early In the aftermath of the global nancial crisis, concerns developed about the effectiveness, accuracy and overall operation of LIBOR and other benchmarks. Further, regulatory investigations (by UK, EU and international authorities) found that attempts were made to manipulate LIBOR and other benchmarks. A LIBOR-ious change? In light of the problems with LIBOR, in a speech on 27 July 2017, the FCA s CEO, Andrew Bailey, announced that LIBOR would be supported for a further ve years, to the end of After this time, a transition will be made to alternative rates. He said: "We do not think we will complete the journey to transactionbased benchmarks if markets continue to rely on LIBOR in its current form. And while we have given our full support to encouraging panel banks to

6 continue to contribute and maintaining LIBOR over recent years, we do not think markets can rely on LIBOR continuing to be available inde nitely." In November 2017, the FCA has con rmed that all panel banks have agreed to support the LIBOR benchmark ensuring the sustainability of the rate until On 19 September 2018, the FCA and PRA wrote to CEOs of major banks and insurers supervised in the UK asking for the preparations and actions they are taking to manage transition from LIBOR to alternative interest rate benchmarks what it calls a collective effort. The purpose of the letter has been to seek assurance that rms senior managers and Boards understand the risks associated with this transition, and are taking appropriate action now so that rms can transition to alternative rates ahead of the 2021 deadline. Market participants should review and consider the references to LIBOR in loan agreements being entered into now and extending beyond 2021 as part of its ongoing compliance with the BMR today uri=celex:32016r1011&from=en 2. Prior to 1 January 2018, certain mandatory administration and contribution provisions applied in respect of critical benchmarks, as well as provisions concerning market abuse.

EU Benchmarks Regulation and Market Impact as of 1 January 2018

EU Benchmarks Regulation and Market Impact as of 1 January 2018 The new EU Benchmarks Regulation (BMR) was published in June 2016 and most rules will apply as of 1 January 2018. The BMR introduces new