Response to consultation on RTS on prudential requirements for central securities depositories (CSDs)
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We understand by making direct reference to CRR requirements, the EBA wants to ensure consistency among different pieces of legislation that might be applicable to bank and non-bank CSDs respectively (i.e. CRD / CRR and CSD-R), as well as with relevant legislation of other market infrastructure (i.e. EMIR).
However, we are very concerned about this “one-size fits all” approach that could affect the economics of non-bank CSD businesses and hamper their future development. In this context, we point out that non-bank CSDs perform their services with a risk profile that is:
• mainly focused on operational risk; and
• more segregated from systemic contagion than CCPs, banks and ICSDs.
These characteristics should be properly reflected by capital requirements for non-bank CSDs and be calibrated to address the specific risks posed by such entities. Therefore, we request that the EBA reconsider how the “weight” of each risk has been reflected in the calculation of regulatory capital in order to avoid an overcapitalisation compared to the overall non-bank CSDs risk profile. Inappropriate weighting risks altering the current business model and placing non-bank CSDs in a competitive disadvantage compared to banking CSDs and custodian that have different risk profiles. In this regard it should be considered that non bank CSDs are basically an “engine” infrastructure facilitating post-trading activities for which they do not need prompt access liquidity to cover their risk exposure that is operational by nature rather than financial.
In this context it should be noted that the migration to the T2S platform will further reduce non-bank CSDs’ risk profiles, in particular with reference to cross-border services. We urge the EBA to conduct a further quantitative analysis in this perspective to better determine appropriate weightings of contingent investment undertaken by CSDs in relation to the T2S project. Considering the resources invested in this project, the financial impact of those investment plus the economic impact of CSD-R capital requirements could put undue stress on CSD capital structures by the time of re-authorisation.
Furthermore, it is worth recalling that the most common domestic regulatory practices allow CSDs to cover their risk exposure through insurance or similar arrangements. Such arrangements could be taken into account when calculating capital requirements. This approach would be consistent also with ESMA RTS whereby insurance coverage is expressly mentioned as measure to mitigate operational risk (see article 26, page 226 of ESMA’s Consultation Paper).
With reference to specific capital requirements Going in further details we would like to point out the following comments on capital requirements for (a) general business risk; (b) capital requirements for winding down and restructuring; and (c) investment risk.
(a) General Business Risk (Annex II)
With reference to article 7(2), we believe that the definition of annual gross operational expenses should be recalibrated on the basis of the following consideration:
costs related to tangible and intangible amortisation and depreciation should be excluded as those costs are not actual costs related to the running CSD business but rather bookkeeping losses from an accounting perspective. This approach would be also in line with CPSS-IOSCO principle 15 on general business risk (see footnote 137);
intragroup expenses should be excluded, where applicable, to avoid a double counting of those costs where there are two CSDs in the same group; and
only those costs which are ongoing in their nature should be included, with non-recurring costs excluded.
As regard the scenario based approach, we believe that CSDs in particular non-bank CSDs should retain the possibility to define the relevant event according to their own corporate and business structures. Therefore, we suggest that the detailed description of scenarios provided in Annex II of RTS should be removed.
By retaining such scenario testing there will be analyses of situations that will not be relevant for non-bank CSDs and some other scenarios could put them in a competitive disadvantage compared to banking CSDs whose business models are more diversified.
In particular we would like to point out that:
reference to ratings should be removed in view of international and European initiatives calling for a progressive removal of references to ratings included in legislation. Furthermore, most CSDs are not required to have ratings by CSD-R;
percentages should be removed in order to avoid automatic triggers, these should be set by CSDs according to their own financial structures;
reference to pension plans could not be relevant according to a CSD’s domestic jurisdiction;
as regard references to unexpected reduction of clients’ balances, as we understand, it is not relevant for non-bank CSDs that do not have exposure towards their participant, we would ask EBA to confirm this.
(b) Winding down and restructuring
The EBA’s proposed requirements for wind-down capital suggest that the winding-down costs of a CSD would be the same (or reasonably approximated) by its previous gross operating expenses calibrated to the estimated time for winding-down.
However, using gross operational costs as a basis for wind-down requirements is not proportionate to the risks run by CSD in wind-down which is catered for suitably by its business risk capital. Therefore, it does not seem proportionate that such aspects of business risk capital are repeated when essentially they are covering the same needs.
Moreover, certain aspects of operational expenses are not appropriate for the calculations of wind-down capital as per our comments under point (a) (i.e. depreciation, amortisation and intragroup costs) . We believe that for the purpose of winding down and restructuring only actual cash costs which are ongoing should be considered.
In addition CSDs should have the possibility to remove other expenses from gross expenses, in particular:
- intragroup expenses, where applicable, to avoid a double counting of those costs where there are two CSDs in the same group;
- cost of sales, which are not relevant in a winding-down situation, e.g. because they can be cancelled promptly from the moment the CSD enters into winding down;
With reference to winding down and restructuring scenarios included in Annex I, as recognised in paragraph 4, we believe that that the scenarios shall be commensurate with the nature of the business of the CSD" therefore non-bank CSDs which have different business models and lower risk profiles than banking CSDs should not be required to develop scenarios based on the “idiosyncratic events” and “systemic-wide events” listed in Annex I paragraph 5, 6 and 7. This approach would be in line also with CPSS-IOSCO principles on recovery and resolution for market infrastructure which suggests that “scenarios should take into account the various risks to which the FMI is exposed, which will vary across different types of FMIs and even across FMIs of the same type”.
For example, the "failure of significant counterparties" referred to in point (a) will not necessarily lead to a restructuring or winding-down of a CSD, since non-bank CSDs are not exposed to counterparty credit risk in relation to their participants.
In light of the above, we suggest the EBA remove the events listed in Annex I and include only a generic reference to "idiosyncratic events” and “systemic-wide” events should be maintained in line with EMIR and CPSS-IOSCO principles.
(c) Investment risk
As regard method for calculation of investment risk, we would like EBA to clarify how it should be calculated in particular when CSDs hold their own asset fully in cash and market risk need not be taken into account."
Q2. Is the level of capital requirements as proposed in these draft RTS adequate to capture all the risks arising from the activities of a CSD? Are they proportionate for all the CSDs’ business models? Please justify your answer.
General commentsWe understand by making direct reference to CRR requirements, the EBA wants to ensure consistency among different pieces of legislation that might be applicable to bank and non-bank CSDs respectively (i.e. CRD / CRR and CSD-R), as well as with relevant legislation of other market infrastructure (i.e. EMIR).
However, we are very concerned about this “one-size fits all” approach that could affect the economics of non-bank CSD businesses and hamper their future development. In this context, we point out that non-bank CSDs perform their services with a risk profile that is:
• mainly focused on operational risk; and
• more segregated from systemic contagion than CCPs, banks and ICSDs.
These characteristics should be properly reflected by capital requirements for non-bank CSDs and be calibrated to address the specific risks posed by such entities. Therefore, we request that the EBA reconsider how the “weight” of each risk has been reflected in the calculation of regulatory capital in order to avoid an overcapitalisation compared to the overall non-bank CSDs risk profile. Inappropriate weighting risks altering the current business model and placing non-bank CSDs in a competitive disadvantage compared to banking CSDs and custodian that have different risk profiles. In this regard it should be considered that non bank CSDs are basically an “engine” infrastructure facilitating post-trading activities for which they do not need prompt access liquidity to cover their risk exposure that is operational by nature rather than financial.
In this context it should be noted that the migration to the T2S platform will further reduce non-bank CSDs’ risk profiles, in particular with reference to cross-border services. We urge the EBA to conduct a further quantitative analysis in this perspective to better determine appropriate weightings of contingent investment undertaken by CSDs in relation to the T2S project. Considering the resources invested in this project, the financial impact of those investment plus the economic impact of CSD-R capital requirements could put undue stress on CSD capital structures by the time of re-authorisation.
Furthermore, it is worth recalling that the most common domestic regulatory practices allow CSDs to cover their risk exposure through insurance or similar arrangements. Such arrangements could be taken into account when calculating capital requirements. This approach would be consistent also with ESMA RTS whereby insurance coverage is expressly mentioned as measure to mitigate operational risk (see article 26, page 226 of ESMA’s Consultation Paper).
With reference to specific capital requirements Going in further details we would like to point out the following comments on capital requirements for (a) general business risk; (b) capital requirements for winding down and restructuring; and (c) investment risk.
(a) General Business Risk (Annex II)
With reference to article 7(2), we believe that the definition of annual gross operational expenses should be recalibrated on the basis of the following consideration:
costs related to tangible and intangible amortisation and depreciation should be excluded as those costs are not actual costs related to the running CSD business but rather bookkeeping losses from an accounting perspective. This approach would be also in line with CPSS-IOSCO principle 15 on general business risk (see footnote 137);
intragroup expenses should be excluded, where applicable, to avoid a double counting of those costs where there are two CSDs in the same group; and
only those costs which are ongoing in their nature should be included, with non-recurring costs excluded.
As regard the scenario based approach, we believe that CSDs in particular non-bank CSDs should retain the possibility to define the relevant event according to their own corporate and business structures. Therefore, we suggest that the detailed description of scenarios provided in Annex II of RTS should be removed.
By retaining such scenario testing there will be analyses of situations that will not be relevant for non-bank CSDs and some other scenarios could put them in a competitive disadvantage compared to banking CSDs whose business models are more diversified.
In particular we would like to point out that:
reference to ratings should be removed in view of international and European initiatives calling for a progressive removal of references to ratings included in legislation. Furthermore, most CSDs are not required to have ratings by CSD-R;
percentages should be removed in order to avoid automatic triggers, these should be set by CSDs according to their own financial structures;
reference to pension plans could not be relevant according to a CSD’s domestic jurisdiction;
as regard references to unexpected reduction of clients’ balances, as we understand, it is not relevant for non-bank CSDs that do not have exposure towards their participant, we would ask EBA to confirm this.
(b) Winding down and restructuring
The EBA’s proposed requirements for wind-down capital suggest that the winding-down costs of a CSD would be the same (or reasonably approximated) by its previous gross operating expenses calibrated to the estimated time for winding-down.
However, using gross operational costs as a basis for wind-down requirements is not proportionate to the risks run by CSD in wind-down which is catered for suitably by its business risk capital. Therefore, it does not seem proportionate that such aspects of business risk capital are repeated when essentially they are covering the same needs.
Moreover, certain aspects of operational expenses are not appropriate for the calculations of wind-down capital as per our comments under point (a) (i.e. depreciation, amortisation and intragroup costs) . We believe that for the purpose of winding down and restructuring only actual cash costs which are ongoing should be considered.
In addition CSDs should have the possibility to remove other expenses from gross expenses, in particular:
- intragroup expenses, where applicable, to avoid a double counting of those costs where there are two CSDs in the same group;
- cost of sales, which are not relevant in a winding-down situation, e.g. because they can be cancelled promptly from the moment the CSD enters into winding down;
With reference to winding down and restructuring scenarios included in Annex I, as recognised in paragraph 4, we believe that that the scenarios shall be commensurate with the nature of the business of the CSD" therefore non-bank CSDs which have different business models and lower risk profiles than banking CSDs should not be required to develop scenarios based on the “idiosyncratic events” and “systemic-wide events” listed in Annex I paragraph 5, 6 and 7. This approach would be in line also with CPSS-IOSCO principles on recovery and resolution for market infrastructure which suggests that “scenarios should take into account the various risks to which the FMI is exposed, which will vary across different types of FMIs and even across FMIs of the same type”.
For example, the "failure of significant counterparties" referred to in point (a) will not necessarily lead to a restructuring or winding-down of a CSD, since non-bank CSDs are not exposed to counterparty credit risk in relation to their participants.
In light of the above, we suggest the EBA remove the events listed in Annex I and include only a generic reference to "idiosyncratic events” and “systemic-wide” events should be maintained in line with EMIR and CPSS-IOSCO principles.
(c) Investment risk
As regard method for calculation of investment risk, we would like EBA to clarify how it should be calculated in particular when CSDs hold their own asset fully in cash and market risk need not be taken into account."
Q3. What are the operational or practical impediments to the implementation of the proposed methodology for the calculation of the capital surcharge (Article 9)? Do you envisage any amendment to the proposed methodology that might lead to a better measurement and management of those risks?
NAQ4. To what extent do CSD-banking service providers have the capability to have a real-time view on their positions with their cash correspondents, based on compulsory information provided by those cash correspondents (Article 14)?
NAQ5. What might be the practical, legal or operational impediments to the methodology set out in Sub-section on Collateral and other equivalent financial resources (Art. 18)?
NAQ6: What are the practical impediments of the implementation of Article 24?
NAQ7. To what extent do CSD-banking service providers hold their intraday liquidity risk buffers independently to other liquidity risk buffers, such as the Liquidity Coverage Ratio (LCR)? If this is not currently done, are there any obstacles to ensuring this? Can CSD-banking service providers estimate the intraday buffer assets required to meet Article 35 compared to the assets that they currently hold that would qualify as eligible liquid assets under this Regulation beyond the minimum LCR standard?
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