Alternative Investment Management Association Representing alternative asset managers globally
Derivatives trade reporting requirements were enshrined into law as part of the global regulatory reforms to bring more transparency into the derivatives markets and are gradually being implemented in all the major jurisdictions around the world. In fact, trade reporting has been live in the US since October 2012 and in Japan since April 2013. Australia and Singapore have also recently started their phased approach to trade reporting in October and November 2013 respectively, with Hong Kong due to launch reporting in December 2013, followed by the European Union in February 2014.
While the implementation of trade reporting rules in multiple jurisdictions has required a large amount of preparation from the dealer community in particular, for asset managers, trade reporting obligations in Europe have been a key area of focus. This is because, unlike other jurisdictions, the European Union, through the European Market Infrastructure Regulation (EMIR), mandates reporting of derivatives trades for both counterparties to the trade. What this means in practice is that irrespective of whether one counterparty (e.g. the dealer) reports a derivatives trade to a trade repository, the reporting obligation, and therefore the liability for accurate reporting, lies with each counterparty to the trade. In the case of buy-side counterparties, the reporting obligation applies to each managed account that uses derivatives as part of its portfolio.
The reporting obligation for all derivatives asset classes - credit, interest rate, equity, FX and commodity derivatives – including exchange traded derivatives begins in 12 February 2014 (Reporting Start Date) i.e., trades entered into on or after this date should be reported on a T+1 basis. As we enter the crucial 90 days until the reporting obligation begins, there are a number of key considerations for asset managers that have a reporting obligation in Europe and that use derivatives in their portfolios. These include:
Buy-side counterparties looking to meet their reporting obligations have three reporting options. They can connect directly to a trade repository such as DTCC, delegate the reporting (but not the obligation) to their dealer if the dealer offers that facility, or delegate their reporting to a third party intermediary such as an IT vendor, or their fund administrators, or custodians.
Asset managers may use derivatives as part of their portfolio to varying degrees. Some may use only certain types of derivatives such as FX derivatives or interest rate derivatives to hedge certain positions; others may use multi-asset class derivatives as an essential part of their portfolio. The usage, frequency and volume of derivatives trading will therefore play an important part in the decision as to which connectivity option buy-side firms adopt for their trade reporting. Low-volume users may choose to use web-based, manual spreadsheet upload, but medium-volume users may wish to automate their upload view web services; FpML messages are the most efficient solution for high-volume end users of derivatives.
EMIR places a reconciliation obligation on asset managers and dealers for OTC derivatives trades, along with other risk mitigation techniques. The main purpose of the portfolio reconciliation requirement is to identify any discrepancies in the terms of the OTC derivative contracts, including their valuation. As such, trade repositories can play an important role in helping the reconciliation process, especially when both counterparties to the trade report to the same trade repository. For buy-side counterparties, knowing where their dealer counterparties report is an important consideration which can help make the reconciliation process more efficient and accurate.
Backloading of trades
EMIR also mandates the backloading of certain trades entered into before 12 February 2014. The reporting timelines for such trades are as follows:
No trades entered into before 16 August 2012 which are not outstanding on such date are required to be reported to a trade repository.
Our experience in other jurisdictions shows that firms may choose to upload live historic trades ahead of the reporting deadline as it makes ongoing reporting easier if the live trades are already reported, in addition to making the reconciliation process more efficient. The fact that the reporting requirements refer to trades entered into before 16 August 2012 and that much of this data may be hard to locate is leading many buy-side firms to upload all their live portfolio positions in the system before the mandatory reporting date.
Data integrity and safety is a key consideration for market participants when choosing a trade repository. Trade reporting engines are built to process many different message formats over multiple communication channels and provide real-time data distribution. As such, buy-side counterparties must take into account the robustness of the infrastructure and the proven track record of their trade repository of choice.
Last but not least, with regulations contributing to an increase in the operational and compliance costs for buy-side firms, finding the most cost-effective solution to achieve compliance is paramount. Buy-side firms should therefore choose the trade repository that offers economies of scale, provides choice when it comes to reporting and connectivity options, taking into account the volume of derivatives traded, and has no hidden costs.
Reporting of all derivatives asset classes in one single day will be a huge undertaking for buy-side counterparties. It is important that they make provisions now in preparation for the trade reporting deadline of 12 February 2014. They also need to be prepared to backload trades entered into before 12 February 2014.
Buy-side counterparties will need to determine as soon as possible if their best option for reporting is to connect directly to a trade repository or delegate reporting to their dealer or their service provider. The responsibility for accurate reporting lies with each counterparty so it is essential that, no matter which reporting route they have chosen, buy-side firms are comfortable that their reporting obligations are being met.
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