European Advisory Authorities Publish Report on Money Laundering

The Joint Committee of the three European Supervisory Authorities (EBA, ESMA and EIOPA) has today published two reports on the implementation of the third Money Laundering Directive [2005/60/EC] (3MLD).

The “Report on the legal, regulatory and supervisory implementation across EU Member States in relation to the Beneficial Owners Customer Due Diligence requirements” analyses EU Member States’ current legal, regulatory and supervisory implementation of the anti-money laundering/counter terrorist financing (AML/CTF) frameworks related to the application by different credit and financial institutions of Customer Due Diligence (CDD) measures on their customers’ beneficial owners. The report sought to identify differences in the implementation of the Directive and to determine whether such differences create a gap in the EU AML/CTF regime that could be exploited by criminals for money laundering and terrorist financing purposes.

The “Report on the legal and regulatory provisions and supervisory expectations across EU Member States of Simplified Due Diligence requirements where the customers are credit and financial institutions” provides an overview of EU Member States’ legal and regulatory provisions and supervisory expectations in relation to the application of Simplified Due Diligence (SDD) requirements of the 3MLD. The report focuses exclusively on one particular situation of low risk where SDD is applicable, namely where the customer is a credit or financial institution situated in a EU/EEA state or in a country that imposes equivalent AML/CFT requirements.

Both reports come to the conclusion that there are significant differences in the implementation across the EU Member States, and that some of these differences could create undesirable effects on the common European Anti Money Laundering Regime. The reports find that some of these differences are not due to the Directive’s minimum harmonisation approach, but instead appear to stem from different national interpretations of the Directive’s requirements. Both reports also call on the European Union to consider addressing these problems.

The Joint Committee

The Joint Committee is a forum for cooperation that was established on 1st January 2011, with the goal of strengthening cooperation between the European Banking Authority (EBA), European Securities and Markets Authority (ESMA) and European Insurance and Occupational Pensions Authority (EIOPA), collectively known as the three European Supervisory Authorities (ESAs).

Through the Joint Committee, the three ESAs cooperate regularly and closely and ensure consistency in their practices. In particular, the Joint Committee works in the areas of supervision of financial conglomerates, accounting and auditing, micro-prudential analyses of cross-sectoral developments, risks and vulnerabilities for financial stability, retail investment products and measures combating money laundering. In addition to being a forum for cooperation, the Joint Committee also plays an important role in the exchange of information with the European Systemic Risk Board (ESRB) and in developing the relationship between the ESRB and the ESAs.

ESMA Issues a Report on its First Examinations of Credit Rating Agencies

European Securities and Markets Authority (ESMA) publishes a report (ESMA/2012/207) on the supervision of Credit Rating Agencies (CRAs) registered in the European Union (EU). The report provides an overview of ESMA’s supervisory activity and summarises the results of the first examinations ESMA conducted in December 2011 of three groups of CRAs, namely Fitch Ratings (Fitch), Moody’s Investor Services (Moody’s) and Standard and Poor’s Rating Services (S&P).

These examinations are the first step in an on-going supervisory process conducted by ESMA. ESMA identified several shortcomings and areas for improvement that apply to a varying extent to all CRAs relating to the following topics:

· Transparency of rating methodologies, disclosure and presentation of ratings;
· Adequacy of controls over IT systems;
· Recording of core internal processes and decisions; and
· Adequacy of resources devoted to internal control functions and analytical business lines.
 

In light of its regulatory objective to protect investors and financial stability, ESMA decided to focus its first on-site-inspections on the larger CRAs. ESMA’s examination aimed at monitoring compliance by CRAs with the EU Regulation, and focused in particular on three specific credit rating classes (sovereign ratings, bank ratings and covered bond ratings) which it considered to be significant, given the current market trends, the degree of credit linkage and the interdependence of these products.

ESMA has not determined whether any of the observations in the report constitute a breach of the CRA Regulation. ESMA will follow-up on the observations through risk mitigation plans for each individual CRA in the first half of 2012.

ESMA outlines Future Regulatory Framework for ETFs and other UCITS Issues

European Securities and Markets Authority (ESMA) publishes a consultation paper (ESMA/2012/44) setting out future guidelines on UCITS Exchange-Traded Funds (UCITS ETFs) and other UCITS-related issues. The proposals cover both synthetic and physical UCITS ETFs and detail the obligations to come for UCITS ETFs, index-tracking UCITS, efficient portfolio management techniques, total return swaps and strategy indices for UCITS.

ESMA is an independent EU Authority that contributes to safeguarding the stability of the European Union's financial system by ensuring the integrity, transparency, efficiency and orderly functioning of securities markets, as well as enhancing investor protection.

In the summer of 2010 ESMA started looking into the operation of UCITS making use of the new investment freedoms introduced by the UCITS III Directive and the Eligible Assets Directive (2007/16/EC) in order to identify the possible impact on investor protection and market integrity. As part of this work, ESMA published a discussion paper on policy orientations on guidelines for UCITS Exchange-Traded Funds and Structured UCITS on 22 July 2011 (ESMA/2011/220), responses to which were due by 22 September. This consultation paper represents the next stage in the development of ESMA guidelines in this area.

ESMA’s proposals therefore go wider than ETFs and cover such areas as the use of total return swaps by any UCITS, for which ESMA envisages additional obligations with respect to the collateral to be provided, or UCITS investing in strategy indices, where the requirements on eligibility of such indices have been tightened. The proposals also include placing an obligation on UCITS ETFs to use an identifier and facili-tating the ability of investors to redeem their shares, whether in the secondary market or directly with the ETF provider.

ETFs will need labelling, more transparency requirements overall

For UCITS ETFs, ESMA proposes the obligatory use of an identifier for all funds that fall within the scope of the harmonised definition. In addition, investors should be provided with more information when the UCITS ETFs does not track an index and is actively managed. Finally, ESMA is seeking stakeholders’ feedback on the appropriate regime for secondary market investors (see section 4 of the consultation paper), and in particular the possibilities for them to dispose of their shares.

Concerning index-tracking UCITS, ESMA proposes additional disclosure requirements on such issues as the index to be tracked and the method of replication and the tracking error (see section 3 of the consultation paper).

Requirements for securities lending and collateral management are introduced

With regard to securities lending, ESMA proposes that collateral posted to mitigate counterparty risk should comply with the criteria set out in the CESR Guidelines on Risk Measurement and Calculation of Global Exposure and Counterparty Risk for UCITS of July 2010 (CESR/10-788), while recommending that the diversification and haircut criteria be strengthened. These requirements would also apply to repo and reverse repo activities. Therefore, according to the draft guidelines, collateral posted in the context of efficient portfolio management techniques should respect the UCITS diversification rules and UCITS should have a documented and appropriate haircut policy for each category of assets received as collateral.

Following the feedback received from the first public consultation1, ESMA decided to address certain of the proposed guidelines to all UCITS investing in total return swaps and strategy indices respectively. For total return swaps, ESMA proposes to apply the same obligations on collateral management as for securities lending. Finally, regarding strategy indices, ESMA confirms most of the policy orientations presented in the discussion paper on eligibility of indices, disclosure to investors and the due diligence to be carried out by the UCITS.

Retailisation of complex products remains a concern

In the discussion paper published in July 2011 (ESMA/2011/220), ESMA expressed its concerns about the increasing number of complex products sold to retail investors and the lack of regulatory convergence in relation to the manufacturing and management of such products. ESMA reiterates the need to tackle these issues and will continue to contribute actively to the regulatory response to these problems.