SFTR – beware silver bullets

A consortium of trade bodies yesterday published a statement to assist with SFTR compliance. The Association for Financial Markets in Europe (AFME), FIA, the International Capital Market Association (ICMA), the International Swaps and Derivatives Association, Inc. (ISDA) and the International Securities Lending Association (ISLA) have jointly developed a template which market participants may use to inform counterparties of the general risks and consequences that may be involved in consenting to a right of use of collateral under a security or title transfer arrangement. The statement may be downloaded from the association websites.

The SFTR came into force on 13 January 2016, affecting current and future collateral agreements under a wide range of financial agreements; the requirements for transparency in pre-contractual documents will apply from 13 July 2016. SFTR developments to date have been covered in detail here and here. Article 15 (1) (a) SFTR stipulates that:

“Any right of counterparties to reuse financial instruments received as collateral shall be subject to at least both of the following conditions:

1. the providing counterparty has been duly informed in writing by the receiving counterparty of the risks and consequences that may be involved in one of the following:
2. granting consent to a right of use of collateral provided under a security collateral arrangement in accordance with Article 5 of Directive 2002/47/EC;
3. concluding a title transfer collateral arrangement”

The statement is a welcome initiative for participants who are already suffering from regulatory overload and short compliance timelines. “Duly informed in writing” would seem like a clear candidate for negative affirmation; however, given the material consequence for failure to comply, it should be used with caution. Article 15 (2) states that rehypothecation is subject to the above, for the sake of certainty, it would be prudent to at least obtain acknowledgment of receipt from appropriately authorised representatives of all affected counterparties.  Article 24 (3) states that “Counterparties shall have in place appropriate internal procedures for their employees to report infringements of Articles 4 and 15”; without written acknowledgement from a counterparty it is difficult to see how a firm can definitively know that it is in compliance with Article 15, potentially imperilling rehypothecation. Sanctions for breach of the SFTR are extensive, ranging from a cease and desist order, to withdrawal of authorisation and/or a fine of up to 10% of annual turnover.

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