UK clearing and the Irish securities conundrum

AC: I am Alan Cameron and I would like to welcome you to this podcast. It is brought to you by BNP Paribas Securities Services and it is one of our Thinking Aloud podcasts.

In these podcasts, we delve into the details of the post trade world and in this episode I am lucky enough to be joined by Gabriel Sampaio, who is our product manager for UK Custody. In fact he covers the UK and Middle East but in this episode we are going to be talking mainly about the UK and mainly about Brexit. So Gabriel, welcome to our Thinking Aloud podcast.

GS: Thank you Alan, glad to be here.

AC: Super, and we are very glad to have you with us, you are a rising star of our company and I always enjoy speaking to you. So let’s talk a little bit about Brexit. Now we know that Brexit has happened and in the post trade world are we living in a temporary situation or have we reached a final state post-Brexit.

GS: That is an excellent question and ultimately the answer is have we ever reached the final state of anything? The world is constantly changing, geopolitical situations are constantly changing so Brexit is just another change that we encounter and work through. We have seen certain elements of it that we have had to address and more will come out of the woodwork but that’s what we are here for. I am sure there will be many more changes that we will need to address in the future.

I think the big one’s that we see as a result of Brexit are around clearing and Irish Securities. I don’t know if you want me to take you a bit through the first one?

AC: Sure, let’s begin with clearing because when Brexit was announced, unleashed upon the world, clearing caused a great deal of consternation and got some headlines in journals that didn’t really follow the post trade industry very carefully it became a very big subject indeed. Why was it such a big subject and what happened?

GS: So, the clearing topic was an interesting one from our perspective as a custodian and clearer, the crux of the issue is share trading obligations (so STO). So that’s set out under Article 23 of  MiFir, and essentially says that  an investment firm that wished to trade in STO shares must ensure  the relevant trade takes place on a regulated market, MPF or equivalent to your country. Now, BNP Paribas Securities Services as a custodian clearer doesn’t trade, so how does that impact us?

There is a condition, to act as a GCM on the LCH Ltd (the UK CCP) where we require non-trading membership of the LSE. So, due to this EU share trading obligation, BNP Paribas Securities Services would no longer be able to maintain this membership and no longer be able to clear trades on behalf of our clients through LCH Limited. That did pose a problem for the industry and there was a lot of discussions with the regulators on what this represents and ESMA did come up with a clarification statement, stating that GCMs (General Clearing Members) are not captured by Share Trading Obligation and they even came up with a revised EU STO that limited to EEA share in all currencies other than GBP on UK trading venues – so essentially a dual listed security traded on the LSE can continue to be traded on the LSE provided that the currency it is traded in is anything other than EURO. This did result in EU based clients either setting up UK entities to trade in EURO on UK venues or solely to trade on EU venues post-Brexit. From a BNP Paribas Securities Services perspective we were able to continue to support our clients both on UK venues and in EU venues.

AC: OK, so we were able to continue acting as a GCM for our clients, that’s good news, but I remember the big story was all about clearing volumes leaving the UK and moving to Europe and the same for trading volumes as well, it was anticipated that a lot of trading activity would leave the UK and move to Continental Europe. Did this actually happen?

GS: We have naturally seen some flows go to Europe as a result of this change partly due to consolidating liquidities in different venues however it wasn’t as drastic as we envisioned. Whether that’s a reflection of reality or we are just seeing exceptional volumes because of the post-Covid environment, it’s still a bit early to tell but from a BNP Paribas Securities Services perspective in the UK, we have continued to see very high volumes from a trading/clearing perspective and from a settlement perspective so there hasn’t been that much of an impact, if any from what we have seen.

AC: So let’s talk a little bit about Ireland and if I remember rightly there are two issues here. The first one was all about the Irish CSD, why was that a story and what happened here?

GS: The Irish CSD question, so, I’ll ask you to close your eyes and imagine where you were some twenty years ago, probably enjoying the melodic tunes of Britney Spears’ ‘Oops I did it again’ while watching the 2000 Euros. It was around this time that Irish Securities began being issued and settled in Euroclear’s UK and Ireland CREST system and it’s been that way for twenty years. The result of the Brexit referendum has made that arrangement untenable. An EU security cannot be issued in a third country CSD which CREST has become as a result of Brexit so this did make it a bit awkward for Euroclear UK and Ireland, not least because of the name, but there were many proposals on the market to address this. EUI (Euroclear UK and Ireland) planned to set up a shell company in Ireland to continue to support the issuers through CREST (an Irish version of it) through a legal construct, there were talks of Clearstream setting up shop to become the Irish CSD but ultimately the decision made by the issuers and the market (the Exchange) was that Euroclear Bank (the Belgian iCSD) would become the issuer CSD of choice with CREST becoming an investor CSD like it is for all other non-domestic securities. This is not a new situation for CREST or for Euroclear Bank. Back in 2015 most Irish ETFs such as the Blackrock iShares and the Vanguard ETFs changed issuer CSD from CREST to Euroclear Bank and the holdings were converted to CREST Depository Interests (CDIs). But there were a lot of additional considerations for Irish Equities that we didn’t have for ETFs, namely, on exchange trading can still be done on both the LSE and Euronext Dublin so that requires consideration and preparation to support the needs of clients from a clearing perspective and of course special attention to everyone’s favourite topic, tax. So, since we are Irish QI (Qualifying Intermediary) we have to have a thorough structure in Euroclear Bank to ensure we are offering relief at source in Euroclear Bank whilst meeting those relevant Irish QI obligations, similar to what we have done in CREST.

Most Irish securities changed issuer CSD about a month/month and a half ago now – so they transformed into CREST CDIs from CREST with the issuer CSD becoming Euroclear bank, clients that wanted to move them to Euroclear Bank have that as the place of safekeeping where they wish to do so, those that wish to keep it in CREST, were also able to do so. A few issues came out of the woodwork as a result of that migration and the change of issuer CSD so we have seen some initial Stamp Duty problems, essentially the way that Stamp Duty is calculated and collected, that’s where Euroclear Bank is slightly different to how it is done in CREST. We have seen some inconsistencies in Corporate Actions processing and some notable gaps between CREST and Euroclear Bank on Corporate Action deadlines but overall it’s been fairly smooth. There are still a handful of issuers that haven’t migrated to Euroclear Bank as issuer CSD and the deadline to do so is 30 June, that’s when EUIs temporary equivalence ends and if they don’t do so (and I think that is a likelihood as there is a dozen or so), they will be removed from CREST and held solely in certificate form.

So whilst the UK and Euroclear UK and Ireland has effectively lost the Irish market, there are still some opportunities that are presenting themselves.

First CREST is going to have to change their name from Euroclear UK and Ireland to something else! There was a recent UK listing review issued by the Chancellor a month or two ago with the drive to increase the listing of foreign companies in the UK, to essentially ease listing rules and improve financing opportunities. In discussion with Euroclear UK and Ireland for what this means for the UK market, they have confirmed their ambitions to expand the service to support these foreign listings if possible and of course we, as a UK custodian, would be happy to support them as well. It is an interesting time for the UK issuer landscape and there’s even the idea of putting SPACs (Special Acquisition Companies in the UK as well, so whilst on the one hand there has been the loss of a certain market in CREST, there are other opportunities that present themselves.

AC: We have talked about clearing and we’ve talked about Ireland, are there any other aspects of Brexit that have affected post trade in a way that clients of BNP Paribas Securities Services should be aware of?

GS: That is an excellent question. From a post trade perspective, I think we have identified the main areas where we have seen those impacts. What we are looking at now potentially is where we will have regulatory changes where previously we could rely on market and regulatory watch for European led changes i.e. European regulations that are directly applicable in the UK or European Directives that require transposition but the main change now is the UK is essentially able to do its own thing, it’s looking to reinvigorate the market where it can. I think one are that we have seen that is with CSDR, namely around the Settlement Discipline Regime and the very controversial mandatory buy-ins. This is something that has been in discussion for a while now with the regulatory bodies to see if we could get a potential postponement or re-evaluation of the need for mandatory buy-ins. The UK, as a result of Brexit came out saying that via a Ministerial Statement, that they will not be implementing the Settlement Discipline Regime as it is set out in CSDR so mandatory buy-ins will not be a thing in CREST, nor will be the Settlement Discipline mechanism where you have debits and credits, that will also now apply in the UK so we are starting to see some differences as  a result of Brexit, it remains to be seen how many more we will see in the coming months and years.

AC: Thank you Gabriel, thank you for giving us your insight into Brexit and the post trade world, and thanks to everyone for listening and joining us for this Thinking Aloud podcast brought to you buy BNP Paribas Securities Services.