A strategic approach to global derivative trade reporting

Transcription

1 A strategic approach to global derivative trade reporting Perspective for the buy side kpmg.com

2 Aim: Key considerations for buy-side firms to evaluate a global derivative trade reporting approach that is scalable, cost effective, and ensures regulatory compliance for themselves and their clients.

3 Contents Global derivatives trade reporting 2 Global derivatives trade reporting matrix 4 Key considerations and our services 6 Case study 8

4 2 Global derivative trade reporting Perspective for the buy side 1. Global derivatives trade reporting The mandate for derivatives trade reporting can be traced back to the global financial crisis of 2008, at which point the lack of transparency in the over-the-counter (OTC) derivatives market limited the ability of regulators and analysts to accurately quantify counterparty risk exposures market participants held in their portfolios. The effects of this issue were highlighted when Lehman Brothers defaulted, and market participants were unable to effectively measure their risk exposure to Lehman, both directly and indirectly via their counterparties exposures. This lack of quantifiable monitoring is often cited as enhancing the effects of the financial crisis and its widereaching impact. Therefore, moving forward it was essential to create a more resilient and open financial derivatives market, where participants and regulators are able to effectively monitor and manage counterparty risk during normal and stressed times and are better equipped to manage such systemic failures. Following the financial crisis, the G20 countries agreed upon financial market reforms. Their aim was to strengthen regulation and oversight of the financial system, especially the derivatives market where regulators aimed to improve transparency, mitigate systemic risk, and protect the market against manipulation. In September 2009 at the Pittsburgh G20 leaders summit, it was decided that all standardized OTC derivatives contracts should be traded on exchanges or electronic trading platforms, where appropriate, and cleared through central counterparties. OTC derivatives contracts should be reported to trade repositories. Non-centrally cleared contracts should be subject to higher capital requirements. * Figure 1: Four main pillars for derivatives reform Trade reporting forms a key pillar of derivatives reform, which aims to allow regulators and analysts to better manage systemic risk by closely monitoring and reacting to counterparty risk exposures with real-time information. The Financial Stability Board (FSB) was tasked by the G20 to assess the coordination and implementation of the reforms from a global perspective. In the United States, the Dodd-Frank Act Title VII was passed to address the derivatives market reform set forth by the G20. Similarly in the European Union, the Europe Market Infrastructure Regulation (EMIR) was designed under the same common goals. Although some form of derivative trade and position reporting did exist prior to the introduction of these reforms, the new regulations aim to force market participants to provide more comprehensive and real-time trade reporting data for the OTC derivatives market. We have begun to see the emergence of regulation in other G20 countries as well, such as Canada, Russia, and countries throughout the Asia Pacific. Australia and Singapore, for example, have finalized their requirements, and implementation is underway. Although these reporting requirements all stem from the common G20 goals, each jurisdiction has particular nuances with a varying degree of impact to the buy side, along with a fragmented implementation time line. As regulations mature, regulators may strive for greater collaboration across regions, and these regulations may tend to become more harmonized. However, as they currently stand, key challenges remain for the buy side for implementing solutions globally. These include: Central clearing through clearinghouses Electronic platforms or traded on exchanges Operating under a bifurcated model between regions and asset classes The type of data to be reported varies from country to country (e.g., required fields and level of information) Different formats for reporting in each jurisdiction Concerns over conflicts between trade reporting requirements and data secrecy laws in some jurisdictions CFTC s No-Action Letter demonstrates this difficulty. The letter provides relief from reporting obligations in some jurisdictions where there are regulatory prohibitions to reporting data Reporting through trade repositories Higher capital requirements for noncentrally cleared contracts International barriers which make it difficult for global institutions to implement global solutions to trade reporting Extraterritorial impact of Dodd-Frank and EMIR: Substituted compliance and Cross Border Rules Certain areas of conflict between extraterritorial requirements and local regulations *Source: G20 statement, Pittsburgh, September 2009

5 Global derivative trade reporting Perspective for the buy side 3 Dual reporting obligations, in some cases onerous are on the dealers whereas in some cases, the obligation also lies with the buy side Continued transformation of regulatory and compliance risk; as regulations proliferate there will likely be overlaps and gaps between systems and processes If these overlaps and gaps are not successfully navigated across jurisdictions and regulations, the possibility of costly error arises Reporting to multiple trade repositories concern of double reporting Data quality consistency, client onboarding issues and omissions in reporting. KPMG s Investment Management Industry Outlook Survey of 2013 highlighted that the largest global investment management firms believe political and regulatory uncertainty poses the biggest threat to their business models. Regulatory proposals have been working their way through the systems for years and they have finally come to implementation stage since last year. KPMG Investment Management Industry Outlook 2013 Regulators and politicians have recognized that if they want to protect the financial system and safeguard investors, they need considerably more data than they have had access to in the past. Although it remains unclear how they will process the vast amount of data they are mandating, they expect full compliance from the investment industry. KPMG Evolving Investment Management Regulation 2014 There are inherent challenges for authorities and regulators as well. The influx of large volumes of information and data that vary in format poses the risk of how the information can be used and processed to provide meaningful insights and metrics into the derivatives market. This challenge will likely put further emphasis on pan-regional regulation harmonization through data standardization and reporting in a more consistent format and process. Financial Stability Board (FSB) OTC Derivatives Markets Reform Seventh Progress Reporting on Implementation

6 4 Global derivative trade reporting Perspective for the buy side 2. Global derivatives trade reporting matrix United States Dodd-Frank Title VII Responsible party One-sided reporting, obligation on swap dealers and major swap participants. Neither buy side nor its clients have primary responsibility for reporting. Asset classes OTC derivatives: swaps and security-based swaps In-scope trades All swap trades Reporting process Detailed information must be reported to a Swap Data Repository (SDR). Key considerations: Legal Entity Identifiers and CFTC Interim Compliant Identifiers required for buy side and its clients. Allocation reporting Buy side are required to provide details. Errors or omissions If a nonreporting counterparty (e.g., buy side firm) becomes aware of any errors or omissions in data reported, the nonreporting counterparty must notify relevant parties. Key fields: Primary economic terms and any variation to the data Key date: December 31, 2012 EU EMIR Regulation EU No648/2012 Responsible party All EU derivatives market participants, financial counterparties, and nonfinancial counterparties. Legal obligation is on both counterparties to a trade. Asset classes All derivatives OTC and listed (IRS, commodity, equity, credit) In-scope trades All trades where at least one counterparty is domiciled in the EU Reporting process Detailed information must be reported to a Trade Repository (TR). Key considerations: Dual reporting Both counterparties have the responsibility to report using a single Unique Trade Identifier. Delegated reporting is permissible (e.g., to a bank, broker, trading platform, CCP, etc.). Key fields: (1) Counterparty data and (2) common data Back loading: Yes Key dates: February 12, 2014 Trade reporting go-live August 11, 2014 Valuation and collateral reporting Singapore SFA No. S 668 Responsible party Every specified person party to a specified derivatives contracts. Significant derivatives holder gross notional amount of specified derivatives contracts booked and/or traded in Singapore that exceeds S$8 billion. Asset classes IRS, CDS, FX, equity, and commodity derivatives In-scope trades All specified derivatives contracts traded (physically located) and/or booked to a Singapore entity Reporting process Detailed information must be reported to a TR. Key considerations: Dual reporting obligations Fields: LEI, UTI, transactional data Back loading: Yes Delegated reporting is permissible (e.g., to a bank, broker, trading platform, CCP, etc.). Key dates: Booked in Singapore: April 1, 2014 Banks July 1, 2014 Other financial entities October 1, 2014 All significant derivative holders Traded in Singapore: April 1, 2015 Banks July 1, 2015 Other financial entities October 1, 2015 All significant derivative holders

7 Global derivative trade reporting Perspective for the buy side 5 Australia s901a Responsible party CFTC-registered swap dealers, major financial institutions ( AUS $50 billion notional outstanding), and other financial entities. Both counterparties to a trade must report if they are in scope entities. Asset classes OTC derivatives (FX, equity, interest rate, credit, commodity). In-scope trades All cleared and uncleared OTC derivatives where one counterparty is in scope per the ASIC definition. Reporting process Detailed information must be reported to a TR. Key considerations: Delegated reporting is permissible (e.g., to a bank, broker, trading platform, CCP, etc.) Substituted compliance is possible. Fields: LEI, economic terms, product transaction and entity identifiers, central clearing indicator, valuation, and collateral. Dual reporting obligations Back loading: Yes Key dates: October 1, 2013 Phase 1 entities April 1, 2014 Phase 2 entities April 13, 2015 Phase 3A entities (IRS, CDS) October 12, 2015 Phase 3A entities (Equity, FX, Commodity) and Phase 3B entities Canada OSC Rules / Responsible party Derivatives dealers and local counterparties (per definition) when one counterparty is a dealer, it is the dealer s responsibility. Asset classes All OTC derivatives transactions In-scope trades All OTC derivative transactions involving a local counterparty Reporting process Detailed information must be reported to a TR. Key considerations: The local counterparty is responsible. When a dealer is involved, the obligation is on the dealer. Fields: Creation data, life cycle event data (changes to creation data), valuation data (valuation of transaction). Regulated by province and not nationally. This is a key difference and potentially adds another layer of complexity. Key dates: October 31, 2014 Dealers and clearing agencies June 30, 2015 All other market participants Other Regions Hong Kong: Consultation paper on detailed requirements in progress. Expected to include trades where investment decisions are made in Hong Kong. Japan: Trade reporting requirements took effect in November 2012, with a transition period until April Scope includes FWD/Options and index FWD/Options, swap transactions (e.g., IRS and FX swap), and credit derivatives transactions. China: Requirements in place for trading of OTC interest rates executed outside the China Foreign Exchange Trade System (CFETS) platform to be reported to CFETS. Further regulations around a mandatory trade reporting obligation are expected but have not yet been announced. Korea: The Capital Markets Act and the Foreign Exchange Transactions Act already require reporting of OTC derivative transaction. Expected to be updated to bring them in line with G20 international regulatory developments. India: Mandatory trade reporting has already started in India. Regulatory guidelines issued by RBI mandate reporting of all/select trades between market makers and with clients in respect of foreign exchange, credit, and interest rate derivatives on CCIL s reporting platform. Russia: Commenced in 2013 with additional requirements taking effect in January Includes all OTC derivatives for entities established in Russia. 1 Regulation of Ontario province, other provinces have their own regulations Note: These notes represent regulations at a point in time and could be subject to change. This is not an exhaustive list of all global regulations relating to derivative trade reporting.

8 6 Global derivative trade reporting Perspective for the buy side 3. Key considerations and our services Given the existing rigorous demands on buy-side operational infrastructure, the importance of an efficient setup has become even more critical to meeting business and regulatory obligations, especially with the onset of new regulations and their global reach. Each firm will need to focus on infrastructure, governance, testing programs, and their target operating model to ensure all regulatory obligations are in compliance and capital and resources are globally allocated in the most cost-effective and efficient manner. While upgrading systems and processes to deal with regulation are resource-intensive, they are increasingly important for safeguarding against the possibility of large financial penalties for regulatory noncompliance and the associated costs of reputational risk. Cost of compliance The implementation phase poses its own challenges, which demands considerable resources to navigate successfully. The costs associated with compliance and dealing with greater oversight will be significant and recurring. However, those firms who identify and understand these challenges can be in an advantageous position for themselves and their clients, as when the regulatory burden lessens, costs related to technological and operational changes, and advancements can be translated to advantages over competition and a more secure infrastructure for their clients. Tactical versus strategic solutions Comprehensive due diligence will be required to assess the most suitable operating model for each buy-side firm. This should include weighing the costs and benefits for implementing tactical versus strategic solutions in order to meet the global trade reporting requirements and ongoing compliance. Key decisions will include whether to conduct in-house builds, delegate, or outsource. Where outsourcing and delegating options are being evaluated, firms should attempt to set up strategic partnerships rather than short-term contracts with vendors and counterparties in order to minimize costs and potentially benefit from economies of scale as firms begin reporting across more jurisdictions. In addition, firms should evaluate how they can potentially link this data to other valueenhancing data processes, reports, and functions that may be useful to clients and internal teams such as risk management and compliance. Another key consideration will be the degree of manual versus automated processes which should be implemented, both in the short and long term. The level of automation should be assessed depending on the risk each process may have to reporting accuracy, sustainability, and scalability. These considerations may also shift as operating models and regulations become more mature, firms may find themselves shifting from tactical to strategic solutions as well as away from manual to more automated processes. Alignment with long-term vision Buy-side firms may consider aligning regulatory obligations with other strategic initiatives. Alignment with broad strategic initiatives (infrastructure consolidation, operating transformations) may help drive the regulatory mandate across the organization by giving it clear exposure to multiple levels of senior management. Extracting value With regards to trade reporting, the buy side should consider how the data being sourced to report to regulators can be adapted or extracted to produce meaningful information both internally and externally. The ability to report to regulators while also adapting the data in-house to create additional value to clients, investment, and risk management teams will require focus. A clearly delineated strategic approach will be crucial for evaluating which reporting models are most suitable as well as a clear plan on development, implementation, and maintenance to ensure continuous regulatory compliance. Our services KPMG LLP (KPMG) has extensive experience working with the buy side to help our clients successfully navigate through the complexities of new mandates and challenges, whether they be regulatory or business driven.

9 Global derivative trade reporting Perspective for the buy side 7 Consideration Business and Regulatory Challenges How KPMG can help Impact assessment/ scoping of requirements Governance Execution Infrastructure Testing and change management Target operating model Defining the strategic approach to multiple regulations and solutions Clear definition of requirements and impacts Cross-border rules interpretation and impacts Operating model selection Aligning regulatory obligations with ongoing or planned strategic initiatives Ensure trading activities are not disrupted Mobilizing key stakeholders Overall accountability and monitoring of controls Centralized processes to establish and drive implementation plan and time lines In-house builds versus third-party solutions Modifications to systems and process enhancements Automation versus manual processes and associated controls Connectivity to trade repositories Availability of data for reporting Clearly define UAT and change processes Development of periodic testing program to ensure the completeness and accuracy of reporting Implementation of trade and position reporting requirements across infrastructure Clearly defined reporting roles and responsibilities across the organization Overall sustainability of approach across regions Impact analysis and requirements gathering Define a clearly delineated strategic approach Regulatory gap assessments Provide insights from regulatory subject matter experts Establish and design an integrated delivery program and governance model to manage the ongoing transformation Establish a governance structure to help ensure regulatory reform is managed across the organization Establish an overall project management office for clear, coordinated, and effective implementation Aid in onboarding clients to the reporting infrastructure Help develop a client communication strategy Vendor assessments and global solution recommendations Manage project across the software development life cycle Design and recommend controls for new and enhanced processes Conduct data availability gap assessments Business Requirement Document (BRD) development Work with vendors on connectivity and testing UAT project management office Help with test scripts development Develop road map based on the set strategy to achieve targeted future state Determine staffing needs to support oversight and ongoing maintenance Help with training and establishing policies and procedures Create processes to deal with exceptions

10 8 Global derivative trade reporting Perspective for the buy side 4. Case study Implementation assistance and Project Management Office support for Dodd-Frank, EMIR, and Asia Pacific Trade Reporting Global Asset Manager Objective and drivers: Based on the influx of derivatives reform under Dodd-Frank Title VII and EMIR, the asset manager had limited resources to program manage the implementation of such reforms and to implement the most optimal, efficient, and strategic solution. KPMG was engaged to set up a program management office and work along side Legal, the Front Office, and infrastructure areas such as Operations, Technology, and Controllers to assess and establish the regulatory priorities and help implement them globally. Approach: Conducted reviews and regulatory gap assessments for the client s businesses. Identified key regulatory reform priorities, impacts, critical time lines, and potential risks. Facilitated industry roundtables to help client assess effective client communication strategy. Senior management reporting and issues escalation. Aided in developing training requirements, policies, and procedures for new-state postregulation implementation. Result: Clear and organized regulatory reform agenda. Industry leader in regulatory compliance. Ensured regulatory compliance for all the firm s clients in a efficient and timely manner with minimal disruption to clients and trading activity. Complete implementation plan with audit trail for regulators. Effective and optimal solution for trade reporting.

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12 Contact us Ian Pollari Financial Services KPMG in Australia T: E: ipollari@kpmg.com.au Benjamin Broeren Management Consulting KPMG in Australia T: E: bbroeren@kpmg.com.au Zaeem Ansari Management Consulting KPMG in the USA T: E: zansari@kpmg.com kpmg.com The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavor to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act upon such information without appropriate professional advice after a thorough examination of the particular situation. firms affiliated with KPMG International Cooperative ( KPMG International ), a Swiss entity. All rights reserved. Printed in the U.S.A. The KPMG name, logo and cutting through complexity are registered trademarks or trademarks of KPMG International. NDPPS