CP23/32: Improving transparency for bond and derivatives markets

The Financial Conduct Authority (FCA) has issued a consultation paper (CP) as part of the Wholesale Markets Review (WMR) to enhance the transparency regime for bond and derivative markets in the UK. The proposed changes address issues in the current transparency regime which was retained following UK’s exit from the EU, including the following:
– (overly) broad scope: Currently, all bonds and derivatives traded on a trading venue are subject to the transparency regime, even when traded over-the-counter by systematic internalisers;
– (restrictive) transparency calculations: The FCA must currently perform countless calculations to determine whether or not an instrument is considered a liquid one to which real-time transparency obligations apply (with the exception of liquidity providers) and to determine „large“ trades. The currently retained Markets in Financial Instruments Regulation (UK MiFIR) does not allow to factor in a broader set of considerations or calibrate the regime so as to include instruments that deserve to be considered for pre-and post-trade transparency.
– (high) operational costs: Naturally, the aforementioned determination of liquid and illiquid assets brings about high operational costs for the FCA. Likewise, firms such as trading venues submitting data to the FCA’s Financial Instruments Transparency System (FITRS) on a daily basis to allow the liquidity calculations incur high operational costs for these activities.
– (overly) restrictive application of pre-trade transparency: Currently, multiple trading arrangements including voice and request for quote (RFQ) trading systems are covered by the pre-trade transparency requirements, although there are technical issues in this context.
– (overly) complex and large deferrals in the post-trade transparency: The FCA finds that the publication of some executions are deferred too long, making it hard to monitor best execution.
– (poor quality) execution reporting: The FCA finds that the „quality and timeliness of post-trade data reported to the public is variable and poor for some asset classes, especially OTC derivatives“.
Therefore, to address these issues and improve the transparency regime overall to create a more proportionate and better calibrated regime with lower compliance costs, adequate protections for market makers, and high quality, valuable post-trade data, the FCA proposes targeted amendments to the regime. The overall goal of the FCA is to improve price formation, increase market participation and confidence, and strengthen the UK’s position in global wholesale markets.
Below is a brief summary of the key changes that the FCA is proposing; to review all of them or to get more details on the noted provisions, please refer to the original legal document.
(1) instrument classification and assigned pre- and post-trade transparency requirements: The FCA proposes to introduce a new classification system for financial instruments subject to transparency requirements. Category 1 instruments would include bonds traded on UK trading platforms and certain derivatives subject to the clearing obligation, while category 2 would comprise all other derivatives, structured finance products, and emission allowances. Under the new rules, trading venues would have to comply with pre- and post-trade transparency requirements for category 1 instruments, while investment firms would need to meet only post-trade requirements. For category 2 instruments, trading venues would need to provide adequate pre- and post-trade transparency, while investment firms would be exempt from providing transaction reports to trade repositories.
(2) transparency calculations: The FCA proposes to discontinue the FITRS and base its liquidity and large trade determination calculations for derivatives on the tenor of the instruments and for bonds and credit default swaps on criteria such as type of issuer, currency, issuance size, maturity, and credit rating. This means that trading venues would no longer have to supply data to FITRS.
(3) calibration of pre-trade transparency requirements: The FCA proposes that pre-trade transparency requirements remain in place for trading platforms, but detailed pre-trade requirements would only apply to fully transparent trading systems. Systems such as the above noted RFQ trading systems would be exempt from these detailed pre-trade obligations. In this context, the FCA also suggest to set up a new waiver for „negotiated orders“ that will replace the existing waivers for instruments with no liquid market and size-specific-to-the-instrument.
(4) calibration of post-trade reporting requirements: The FCA proposes to exempt OTC transactions between entities of a same group to be reported by investment firms. Additionally, the FCA suggests to expand the exemption for other non-price forming trades such as in give-up and give-in trades to include trades received for execution for purposes of „hedging the position that it has committed to enter into with a client“.
(5) enhancement of transaction reporting: In an effort to streamline transaction reporting, yet enhance report usability and usefulness, the FCA proposes to remove various redundant fields and flags, insert a new field to identify the central counterparty used to clear a trade, and implement the new Unique Product Identifier (UPI) field for swap transactions alongside several other data fields (for interest rate swaps (IRS)) to align with international standards for swap reporting. Such fields include, for instance,
– effective start date of an IRS;
– expiry date of an IRS; or
– spread on the floating leg of an IRS.