BME SPANISH EXCHANGES COMMENTS ON ESMA CONSULTATION PAPER ON THE

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1 BME SPANISH EXCHANGES COMMENTS ON ESMA CONSULTATION PAPER ON THE DRAFT TECHNICAL STANDARDS ON THE REGULATION (EU) XXX/2012 OF THE EUROPEAN PARLIAMENT AND OF THE COUNCIL ON SHORT SELLING AND CERTAIN ASPECTS OF CREDIT DEFAULT SWAPS (ESMA/2012/30) Madrid, February 13 th, 2012 INTRODUCTION Bolsas y Mercados Españoles (BME) integrates the companies that operate and manage the securities markets and financial systems in Spain. It brings together, under a single activity, decision-making and coordination unit, the Spanish equity, fixed-income and derivatives markets and their clearing and settlement systems. We welcome the ESMA Consultation Paper on the Draft technical standards on the Regulation (EU) xxx/2012 of the European Parliament and of the Council on short selling and certain aspects of credit default swaps (ESMA/2012/30). We would like to thank ESMA the opportunity to provide with our views on the questions posed in the Consultation Paper. As a general remark, and prior to entering into the details of the consultation, we would like to draw your attention to some arguments that were already made in our response to the European Commission Public Consultation on short selling, which was published in June We understand the rationale behind the measures taken by the authorities as extreme market conditions triggered extreme measures to seek restoring confidence in the markets. However, notwithstanding the laudable intentions, the restrictions imposed by several authorities in the EU have been both discriminatory, because of their scope of instruments and venues, and ineffective. Studies1 demonstrate that short-selling prohibitions reduced market liquidity - especially for stocks with small market capitalization, high volatility and no listed options - and the extent to which prices reflect private information. Moreover, bans on short-selling slowed down price discovery, especially in bear market phases. To avoid similar situations in the future, we support a strong role to be given to ESMA in ensuring that a consistent approach is taken by the Competent Authorities (CAs). In addition to the reporting measures discussed in the Commission s paper, we strongly encourage the Commission to ensure that pre-borrow arrangements are in place between borrowers and lenders and that strict settlement, deliveries requirements and buy-in rules are in place. 1

2 II. Agreements, arrangements and measures that adequately ensure that the share or the sovereign debt will be available for settlement Q1. Do you agree with the approach of providing an exhaustive list of types of agreement, arrangement and measure that adequately ensure share or sovereign debt instruments will be available for settlement and setting out the criteria these should fulfill? We deem it appropriate ESMA to produce a list that includes the agreements, arrangements and measures which, based on their nature and effects, ensure that the settlement of the short-sale occurs on a safe and timely manner, i.e., that the relevant instruments are available for settlement. We understand that features of such agreements, arrangements and measures are foreseen in articles 12.1 (a) - (b) and 13.1 (a) - (b) of the proposal for the regulation. However, we understand that articles 12.1 (c) and 13.1 (c) are somehow ambiguous, and therefore leave the door open to the use of arrangements that would eventually fail to ensure that instruments are available for settlement. Such situation would certainly be against the objective and spirit of this piece of legislation and would pose additional risk to the financial system. Q2. Do you agree with the proposed list of agreements and enforceable claims and the criteria they should meet? Are there any other types of agreement or enforceable claims or criteria that should be added? Considering the linkage between this question and Annex IV to the Draft Implementing Technical Standards, and also considering Article 5 of the same document which develops Articles 12.1(b) and 13.1(b) of the proposal for a regulation Agreements to borrow and other enforceable claims having similar effect, we would like to note the following issues as presented in the next paragraphs. We understand that options and futures contracts as presented in sections 1(a) and 1(b) in Article 5 of the Draft Implementing Technical Standards are not suitable to be classified as agreements to borrow or other enforceable claims having similar effects to securities lending, because they do not deliver strictly equivalent effects. Options and futures contracts maturity can be as long as months or even run up to years, which pretty much differs of settlement dates for short-sales, usually three or four days). We understand that American-style options (i.e., one that can be exercised at anytime during its life) should be given, because of its very nature, due consideration as part of the list of agreements to borrow or other enforceable claims proposed by ESMA. Therefore, we consider that except for American-style options options and futures contracts are not suitable to be classified as agreements to borrow or other enforceable claims having similar effects to securities lending, because they do not deliver strictly equivalent effects. 2

3 Q3. Do you consider that these criteria will entail additional costs as compared to current practices on the market? If so, could you specify the drivers for those additional costs and any indication of their amount? We understand that the cases presented under Articles 12.1(a) - (b) and 13.1(a) - (b) of the proposal for a regulation would not necessarily involve additional costs. Should it be the case that there exists other agreements and/or contracts different to those presented in the proposal, they would be out of the scope of the proposed Regulation and, therefore, they would not be enforceable. Q4. Do you agree with the proposed list of third parties which may be parties to the arrangements or measures and the criteria proposed by ESMA that they should fulfill? This question is linked to Article 8 of the Draft Implementing Technical Standards, which provides with a detailed list of the third parties with whom arrangements are made. In turn, referred Article 8 is linked to Articles 6 and 7 of the Draft Implementing Technical Standards, which develop Articles 12.1 (c) and 13.1 (c) of the proposal for a regulation, whose potential adverse consequences have been warned against above. Therefore, those parts of the Implementing Technical Standards which develop the above mentioned rules should not be applied. We would suggest Articles 6, 7 and 8 of the Draft Implementing Technical Standards to be deleted or modified accordingly where applicable. Notwithstanding the previous position, and in addition to it, we understand that trading venues as listed in Article 8 (b) of the Draft Implementing Technical Standards should in no circumstances be considered as a third party with whom arrangements are made. Trading venues must remain neutral not only as a consequence of the regulation but mainly as a matter of market integrity and legal certainty. Further to it, trading venues should never trade on own account, considering that its core purpose is operating the market on a neutral and nondiscretionary basis, i.e., not taking a position on securities traded thereof. Because of this, responsibility for ensuring the availability of deliverable securities on a short-sale trade must rely on the intermediary entering into the operation, for which a trading venue should never be involved. Q5. Are there further criteria which should be added? Please, see previous answer. Q6. Does the fact that a third party should be a distinct legal entity from the entity entering into the short sale entail costs? If so please provide estimates of these costs. From a financial costs perspective, it must be noted that adding a third party layer in ensuring the availability of the instruments would increase the costs of the short-selling operation. In contrast, from a risk management perspective, it could be argued that participation of a third party would contribute to a safer and sounder system. 3

4 Whereas adverse consequences of retaining the current wording of Articles 12.1 (c) and 13.1 (c) of the proposal for a regulation have already been made, should it eventually be that they remain and the a third party participation is not mandated (i.e., the trading firm may be the same as the firm ensuring the availability of the instruments), some safety measures would be needed to mitigate the relevant risks that may arise. In this sense, instruments disposal for stock lending should be done against the firm s own instruments or against instruments that are made available under the prior consent of the respective holders. Q7. Do you agree with the approach proposed by ESMA on the standard / same day / liquid shares locate confirmation arrangements and measures and the criteria that they must fulfill? As a general overview, we may warn against the adverse effects on certainty and safety of the system derived from current wording of Articles 12.1 (c) of the proposal for a regulation. However, should it be the case that such Article is eventually passed, we deem it essential to adopt the above referred measures even though they would not fully impede the risks of default. Q8. In circumstances other than intraday short selling on liquid shares, can you suggest any additions to the methods for effective allocation set out in the consultation paper which would provide the necessary comfort that shares can be delivered for settlement in due time? No. Q9. In relation to the approach suggested for liquid shares, do you consider it appropriate to use the MIFID definition of liquid shares? Do you think ESMA should consider different approaches to determine the reasonable expectation test for liquid and illiquid shares? If not, can you provide indications as to criteria to consider to define liquid shares or to take into account the liquidity of the shares in these circumstances? Is securities lending activity an additional factor to consider when determining liquidity for a share? Please, see answer to Q7. Q10. Do you agree with the approach proposed by ESMA on the location confirmation and reasonable expectation arrangement in relation to sovereign debt and that the reasonable expectation test should only apply in the case of intraday short selling of sovereign debt? Please, see answer to Q7. Additionally, we understand as a positive approach the application of Article 13.1 (c) in the most restrictive way where it is the case that it is eventually approved as currently drafted. 4

5 III. Details of the information on net short positions to be notified to competent authorities and disclosed to the public Q11. Do you agree that there should be one standard format for notifying relevant competent authority for each type of instrument? Q12. Do you agree that there should be one standard form for public disclosure of information on significant net short positions in shares? Q13. Do you agree with the proposed way to identify natural and legal persons, including the contact information details? Q14. Do you agree with the proposed way to notify and disclose the size of the relevant position? Q15. Do you have any comments on the proposed way to identify the issuer in relation to which the relevant net short position is held, including how to use the ISIN code in this matter? Each class of shares should be identified by means of its own ISIN code. Q16. Do you agree with the ISO standard use to notify and publicly disclose the date on which relevant position was created, changed or ceased to be held? Q17. Do you agree that the additional information as described above should be provided? 5

6 IV. Means by which information on net short positions in shares may be disclosed to the public. Q18. Do you agree that information on the central website should be provided at least in a machinereadable format? Q19. Do you agree that information on the central websites should at least include data as provided in Annex 1 of the draft implementing standard presented in appendix to this consultation paper? V. Information to be provided to ESMA by competent authorities. Q20. Do you foresee any other situation that might merit an update of the list of exempted shares within the two-year effectiveness period? No. 6