Open Review of Management, Banking and Finance

«They say things are happening at the border, but nobody knows which border» (Mark Strand)

Financial information regulation and Emir principles.

by Susan Clements and Valerio Lemma

Abstract: This paper analyzes the provisions of (EU) Regulation No. 648 of 2012 (EMIR), in relation to the need to avoid certain practices of negotiating – privately and on the basis of information available only to the contracting parties – some types of financial instruments (and, in particular, derivatives).

The Authors focus on the rules that aim at increasing the transparency and the safety of the capital markets, in line with the evolution of communication processes, centralizing data in warehouses available to any financial operator.

Today, this centralization sets the stage for a new set up of the financial transactions. The implementation of the EMIR provisions (and, therefore, of appropriate clearing and reporting mechanisms) affects also the organization of an industry that will ensure a more effective protection of the «right to information».

In conclusion, the research highlights the key factors of a ‘market for financial information’, which is not yet considered as a reality by the EU regulator. We remain, then, with the unsatisfied expectation that the EU has not considered (and regulated) all the activities related to the demand and supply of information about market trends and financial instruments features.

Summary: 1. Introduction. – 2. Clearing, bilateral risk management and reporting in EU rules. – 3. The impact of EMIR on transactional costs. – 4. Legal matters in the consolidation of financial information. – 5. Exceptions in the EMIR regime. – 6. Reporting mechanisms and other tools to prevent the systemic risk. – 7. Emir, financial information and the capital market. – 8. Elements of a ‘market for financial information’ in the EMIR.

 1.     In searching for greater safety in the movement of capital, a new narrow trend finds its foundations in the recent European financial regulation. This direction is based on more rigorous financial reporting standards and, in particular, on the centralization of the data concerning the movement of the financial instruments (even when traded outside regulated markets).[1] Therefore, our analysis will focus on the regulatory approach that seeks the more general purpose of avoiding certain adverse effects detected in a competitive system, like the one that affirmed itself after the overcoming of the stock exchange concentration principle, due to Directive 2004/39/EC and which is at the center of the framework laid down by Directive 2014/65/EU.[2]

Moreover, after the proliferation of trading venues, it soon became clear that the competition between them hindered the efficient meeting of supply and demand, which could disappear (or replicate) in multiple (different and not communicating) locations.[3] Therefore, there is the need to bring together all the people having access to the market, in order to avoid its fragmentation and then ensure the stability of the capital circulation.[4] This does not mean the imposition of political limitations to the freedom (or rather: competition) of regulated markets and other multilateral or bilateral trading systems.

In the past, the over-the-counter industry has led to an uncontrolled proliferation – and circulation – of risks and, in particular, of the liquidity and counterparty risk (as evidenced by the Initial investigation conducted by the Working Group led by Jacques de La Rosiere). Therefore the reform (and standardization) of the safeguards related to trading of financial instruments outside the regulated markets appears to be shareable.

Undoubtedly, the provisions of (EU) Regulation No. 648 of 2012, the so called EMIR, seem to respond to the above instance. These provisions are against certain practices of negotiating – privately and on the basis of information available only to the contracting parties – some types of financial instruments (and, in particular, derivatives).[5] As we shall see, the mentioned EMIR aims at increasing the transparency and the safety of over-the-counter markets, attempting to impose operational methodologies compatible with those qualifying the traditional circuits of the Stock Exchange, to all the operators.

In addition to the above, we must take into account the option – on which European legislation is based – to contrast the practice of taking opposite positions – in buying and selling – on derivatives. Such practice cannot be compatible with the EU market structure, where the presence of consequential operations seems to be able to generate systemic problems (in case of a single failure), able to overcome the bilateral relationship on which the derivatives traded are based.[6]

Ultimately, the legal orientation seeking to avoid the creation of operations characterized by a complex web of interdependence appears to be predominant; in this wired context, we cannot find the information necessary to evaluate the nature and the risks underlying any derivative.

Therefore, it is worth considering the possibility of extending certain (clearing, bilateral risk management and reporting) duties beyond the boundaries of regulated markets. This approach can find a common answer – at European Level – to different inputs, as the EU rules intervene in an area (over the counter) that, being developed in the shadows of the regulated markets, has different anomalies (identified by the indefinite nature of certain operators and by the opacity of financial instruments).[7]

2.     The EMIR Regulation outlines a new legal order for a specific section of the financial market, regulating in innovative ways the trading of OTC derivatives, the functionality of the central counterparties, and the data repositories’ role. These rules are characterized by the goal of assuring the regularity of payments and information circulation (both relating to the over the counter negotiations). This goal has been pursued after the identification of the subjects and the functions at the basis of the relevant markets. In fact, the achievement of this goal passes by the clearing obligation (Art. 4) or, alternatively, the adoption of a Risk-mitigation technique for OTC derivative contracts not cleared by a CCP (Art. 11), as well as the specific Reporting Obligation (to a trade repository, Art. 9).

Despite this, we are in the presence of regulatory options conditioned by certain characteristics of the markets for derivatives (and, therefore, of a specific supervisory intervention on the «products of creative financing»).[8] In particular, it should be noted that trading derivative contracts over the counter determines – in general – a bilateral structure subject to the so called counterparty risk, so that the most common safeguards should be oriented to avoid that, facing the failure of any individual operator (or certain sections), the events of insolvency come to determine liquidity issues (or lack of confidence in the system), as it happened at the beginning of the recent financial crisis.[9]

It goes without saying that the search for (market) stability and (operation) transparency leads to the regulatory choice of giving special importance to the central counterparty (referred to as «CCP »), referring to the legal person that interposes itself between the counterparties to the contracts traded on one or more financial markets (becoming the buyer to every seller, and the seller to every buyer; Art. 2, Reg. 648/2012).[10] This causes the centralization of the organizational and informational functions within the hands of a supervised party (the CCP).

In this context we find the requirement of a specific authorization for a CCP – after the verification of the minimum capital requirements (Art. 15, Reg. 648/2012)[11] – to which corresponds both the possibility to offer «clearing services» (Art. 14, Reg. 648/2012) under national and ESMA supervision (Art. 22, Reg. 648/2012), and the burden of preserving the appropriate data (and to make them available to the competent authorities; Art. 29, Reg. 648/2012).[12]

Firstly, we can highlight that this is linked to the need to adopt governance measures able to handle the clearing and, therefore, the exposure to the individual counterparties (Art. 40); hence the provision of a system of «margins» (and of «margin requirements» to limit credit exposures, Art. 41) and a «default fund» (in the form of a pre-funded default fund to cover losses that exceed the losses to be covered by margin requirements, Art. 42).

Secondly, our investigation comes to the «interoperability arrangements» between the CCPs (or rather, to the case where a CCP may enter into an interoperability arrangement with another CCP). We must consider that EU rules focus on the aim to provide services to a particular trading venue, or to access the data needed to perform their functions (according to the requirements of Articles 51 and following, Reg. 648/2012). At the same time, these arrangements must be aligned with the implementation of the risk management functions, and then with proper functioning of the internal systems able to cover the risks arising to these arrangements (among which is detected the provision of additional margins, ex Art. 53, Reg. cit.).

In brief, a new model of risk insurance corresponds to the clearing system introduced by EMIR Regulation. It is focused on the calculation of margins, and on the contribution to a default fund. Hence the need to provide rigorous stress tests to assess its «resilience» (in extreme, but plausible market conditions)[13], as well as specific procedures to handle the cases of non-fulfillment by the participants (Art. 48, Reg. 648/2012).

3.     There is no doubt that the above organizational structure (for trades and for the relative central counterparty) increases transactional costs within the derivatives market (due, precisely, to the centralization of the payments). If this structure, on the one hand, is justified by the need to manage the risks at the base of the recent financial crisis in innovative ways, on the other, it is difficult to measure the benefits of a system that – ultimately – does not mitigate the risks, but centralizes them in the hands of the CCP.

Moreover, if the CCPs are interdependent (among themselves) then all the parties become amplifiers of systemic risk. Hence, we can identify the need to assess whether the market structure is sustainable and, therefore, if the monetary and supervisory authorities are able to cope with the default of such subjects.

That said, with regard to the new reporting requirements, it is useful to dwell upon the option – of the EMIR Regulation – to introduce a specific form of supervision on the data sharing (concerning the derivative transactions), by adjusting their production, brokering, processing and – ultimately – circulation.

All this considered, this disclosure regime shall not be governed together with the transaction to which it relates, but it shall be subject to specific and further duties.[14]

Indeed, the European regulator attributes to a specialized subject – i.e. the trade repository – the activity of collecting and storing the records regarding the derivative financial instruments negotiated over-the-counter.[15] This goes together with the involvement of the ESMA, under a registration procedure (Art. 56 ff., Reg. 648/2012), as well as specific powers related to the inspection and information supervision (Arts. 61 and ff., Reg. cit.), and the power to impose fines, in case of violations (Art. 65, Reg. cit.).

Even in this case, it goes without saying that the involvement of individuals also imposes the verification that the corporate governance structure of the trade repositors presents a clear organizational structure with well-defined responsibility guidelines, and adequate internal control mechanisms, which shall prevent any disclosure of confidential information. In fact there is the risk that the subject in question might want to abuse its position or, rather, to use the advantage of managing the information flows mentioned (manipulating the balance of the market). The same has to be said for the operational risk, since the fact that an error in the management of the collected data could affect the regular trend of negotiations.[16]

In fewer words, it can be said that – in terms of information – we are in the presence of an intervention that aims at increasing the reliability of data on the derivatives’ transactions through their registration in a centralized system. To this intervention should correspond a general improvement of the transparency in which, until now, OTC derivatives have been negotiated. In particular, in the EU rules we may find a regulatory framework able to link the effectiveness of the above safeguards (for the smooth functioning of the capital market) to the need to ensure the accuracy (in the production and processing phase), transparency (in the case of provision of services), and the integrity of information on the trading of financial instruments (during its consolidation and subsequent circulation).[17]

This suggests the possibility that the rules concerning the consolidation of information will take into account the global financial system (in its entirety), whence the prospective to configure a single archive (resulting from the aggregation of the data collected by any individual trade repositor) or to organize a form of coordination (based on the centralized indexing of the information or on a network of bilateral agreements between trade repositors and supervisors). Having regard to the incidence of such data on the transactions that take place within the regulated markets, we can say that the Emir Regulation sets the stage for the creation of a ‘single information circuit’, able to involve all the relevant data in the price formation process (considering all the trading venues, and then the whole derivatives market).

However, it should be indicated that the reality under observation is still conditioned by the presence of a single European capital market against a plurality of sovereign systems. Not surprisingly, a different national qualification of the financial instruments can determine an unequal legal treatment – (also in accounting) of the latter – able to affect the rules on reporting and, therefore, to lead to an inconsistency of the relevant information (with an obvious negative impact on the reliability of aggregate data).

Thus, only a careful and vigilant reconciliation (and, therefore control) activity may lead to a true representation of the OTC market and, at the same time, to the identification of a correct reference parameter for the measurement of systemic risk.

4.     In light of the foregoing, it is possible to consider that the EMIR Regulation answers two (distinct but related) issues: a) the knowledge acquiring activity of the trade repositors; b) the centralization of the settlement risk within a CCP. It goes without saying that the origins (from different legal systems) of the over-the-counter transactions (and, therefore, the risk of dealing with situations not always fully compatible with all the involved national laws) amplify both these issues. Therefore, we must consider the need to identify the international standards for the relevant counterparties, the financial instruments, and the types of relationships that give content to the financial sector under investigation.

In other words, it is evident the need to find certain unique keys of representation for this information, in order to avoid an insignificant aggregate data (and, therefore, the detriment for the transparency of the capital market).

It should be noted that the European regulator has attempted to solve the major discrepancies promoting the adoption of a specific methodology to describe derivatives transactions (also in terms of transmission rules, standards and formats). The provisions of the Implementing Regulation (EU) No. 1247/2012 are oriented In this direction, which deals with – and, using a unique key, solves – the problem consisting in the fact that OTC derivatives are not always uniquely identifiable (using the codes experienced in the financial markets, i.e. International Securities Identification Numbers – ISIN), nor can be described by applying the ISO classification code for financial instruments (i.e. Classification of Financial Instruments – CFI).[18]

Undoubtedly, a regulatory intervention appears to be – globally – necessary, in order to promote the adoption of common rules in the treatment of the constituent elements of the derivatives, as well as in the qualification of the subjects required to communicate relevant information. Despite this, we shall consider that the global financial system requires equal access to the signage proceedings introduced by the Emir Regulation to ensure the smooth functioning of market allocation mechanisms.[19]

Conversely, the financial information system is penalized by the fact that some operators have not yet found their own subjective definition within their national legal order. An example of this problem is the experience of mutual funds that – in a criticized decision of the Italian Court of Cassation – have been defined as ‘separate assets’ of the Management Company who instituted them, without recognizing a minimum level of own subjectivity (that is necessary to ensure the smooth functioning of the financial markets).[20]

In fact, this decision raises additional problems in the whole EU capital marked, which are linked to the need – expressed by Emir Regulation – for a census of the derivative transactions of each fund (or, indeed, of each sub-fund) and, therefore, to attribute to the latter full ownership of the negotiations in question.[21] The same is true for the alternative investment funds (mentioned in Directive 2011/61/EU), pension funds, and internal funds of insurance companies (related to index-linked or unit linked policies). In these cases, we should consider these entities/undertakings independently from the subject which manages their assets (and, therefore, as owners of a specific legal position in the presence of derivatives transactions made with their own resources).

5.     It is also necessary to highlight the peculiar position of local authorities involved in derivative transactions when referring to the changes introduced by the Emir Regulation.[22] In fact we are in the presence of public entities that, although prove themselves to be prima facie excluded from its scope (ex l. 448 of 2001 and l. 147 of 2013[23]), are called to integrate themselves within the system under consideration (so that their negotiation counterparts can fulfill the reporting obligations of the negotiation towards trade repositors; hence the need to proceed in identifying these subjects, by attributing the provided unique code). Even in the context of exhaustion of derivative transactions of public bodies, the introduction of an obligation to adapt to the centralized management of negotiations could trace back to a unified set of contracts that, even today, is exposed to the bilateral risk of the regulation (and then lack of adequate warranties).

Furthermore, we cannot appreciate the option – contained in the Emir Regulation – to exempt the central banks and government agencies involved in the management of sovereign debt from the clearing and reporting obligations applicable to OTC derivatives, even if it is aligned with the rules previously introduced in Japan and in the United States of America.[24]

Consequently, more than an exception is determined. We are in presence of an exclusion that allows – Member States – to remove certain derivative transactions from the scope of the safety system introduced to improve the transparency of information.[25] Moreover, in these cases, the absence of a centralizing duty exposes operations related to public finance to the full counterparty risk. Hence, this is an exception that increases the distance to the goal of harmonizing the derivative market through the diffusion of efficient and reliable compensation systems (subject to the financial supervision).

More generally, it should be noted that – even after the adoption of the Emir Regulation – a structure not able to protect the position of the State persists. In fact the latter can operate without having access to a centralized system (for information and payments), carrying out wholesale transactions on the basis of «non-public prices» and, therefore, in the absence of a full «pre-trade disclosure ».[26]

From another perspective, we shall analyze the goal of avoiding relationships that increase counterparty risk, so that a possible «indirect compensation agreement»- involving multiple parties – must necessarily present a negotiation structure of the kind envisaged by Article 2, Reg. No. 149 of 2013.[27]

In light of the foregoing, it seems possible to identify a first conclusion related to the limits of the Emir Regulation, which seems to be not oriented to resolve certain asymmetric conditions able to produce both errors in the functioning of the allocation mechanisms (and, therefore, failures in the market), and losses by the investors (and, therefore, subjective positions fractures). However, we remain with the hope that these asymmetries will be overcome by increasing the ability (of the operators) to assess the risks that – systemically – weigh on capital markets, following the possibility to use open information (due to the intervention of the trade repositors).

6.     The centralization of reporting identifies a solution to the information problems raised by the competition of trading venues imposed by MiFID.[28] In the light of the foregoing, the EU rules (following the MiFID) should structure new markets, able to ensure the global availability of the information arising from the consolidation process of the data (related to orders for buying or selling financial instruments placed in any venues).

Obviously, we are not dealing with the economic planning, nor the limitation of the free market. EMIR and other rules seek only solutions to prevent the systemic risk. The EU regulator, in fact, is aware that the option for a system of alternative trading venues resulted in a general misalignment of prices (due to the simultaneous release, in several locations, of purchase or sale orders[29])[30]. Hence, we can understand the economic determinants of the need to introduce specific controls, designed to prevent that the simultaneous trading (in multiple locations) could lead to the detriment of the entire financial sector (in terms of efficiency and equity).[31]

Therefore, it can be said that the enhancement of the specific reporting function – at the base of the EMIR (and its implementing regulations) – should not be attributed only to the goal to promote the quantitative increase in the levels of market knowledge.[32] In fact, the publication of aggregates (in classes of financial derivatives) also allows the evaluation of the systemic consequences of certain possible infection (even those due to the insolvency of any individual operator).

In this perspective, it is very important to outline that the centralization of information – in the hands of trade repositors – reduces some uncertainties (related to the previous lack of consolidated data), performing a private control aimed at ensuring the proper functioning of the financial market.

But there is more. It is clear that the reporting mechanisms (and, in particular, those related to OTC derivatives) require specific identification of the content and format of the data (collected by CCPs). In this case, (the validity of this choice and the compulsory character of) common standards correspond to the possibility for the CCPs to perform their functions effectively and, at the same time, to the possibility for the authorities to analyze comparable values and information.[33]

That said, it is necessary to dwell on the choice – made by the European Commission – to identify the «minimum information» to be reported (according to (EU) Reg. no. 148 of 2013). In this context, the indication of the ‘value of the contract at current prices’ allows the analysts to measure each exposure attributable to a single derivative and, therefore, to assess the overall impact of the OTC trading in function of the financial stability of the market.[34] Hence we can understand the regulatory option to report any subsequent compensation – by a CCP – of the existing contracts (Art. 2, Reg. no.148, cit.).

Therefore, the specification of the «information to be published» (brought by the EU Reg. no. 151 of 2013) appears to be of central importance. To this specification – and to the simultaneous selection of operating standards for the aggregation and comparing of the information – we reconnect the possibility for supervisory authorities (and central banks) to monitor – and thus safeguard – the financial stability of the EU capital market.

Concluding on this point, it should be noted that the rules of EMIR – and its implementing regulations – unify the system of clearing and of reporting, in order to limit the counterparty risk, with the effect of multiplying the information (about the derivatives negotiations). The result should be a system aimed at measuring and managing also systemic risks and other issues that affect the financial industry (as a whole). This entails an extension of the scope of the current supervision and, therefore, a substantial exclusion of the OTC derivatives from the «shadow banking system», with obvious benefits in reducing the risk of the well-known market (and capitalism) failures.[35]

That said, we should also consider the ways in which financial operators produce information (intended for trade repositors and, therefore, for the supervisory authorities). In fact, this is the basis of the reporting mechanisms provided by EMIR, where all operators participate to the production of a piece of the final aggregate data, but only the trade repositors have a full information (in order to consolidate, clean and square the numbers of relevant financial transactions).

From a regulatory perspective, then, we must take into account the need for protection of those who are unable to verify the accuracy of the consolidation process.[36] We are aware that this set up shall end in the possibility of information asymmetries able to produce an «unfair advantage».

So, the smooth functioning of the financial market is closely linked not only to the performance of the trade repositors, but also to ESMA’s ability to supervise the entities that hold more information.

7.     According to the above, we can outline specific problems due to the regulatory option that affects the link between information and market, touching the general interests related to the efficient movement of capital. Therefore, we shall highlight that the good starting point (set by the EMIR) does not avoid all the negative consequences due to the asymmetries that penalize the current set up of the EU financial market. These asymmetries, in fact, in addition to adversely affecting bilateral relations, produce the risk of certain failures in the ‘market for information’ (to which follows the inability to determine the quantity and the quality of products circulating in all the involved trading venues).[37]

All this is confirmed by the findings of ESMA’s Opinions on financial products,[38] and in particular by the interpretation of the Italian competent authority (i.e. Consob, (which has taken them narrowly, such as to integrate the principle of transparency with some rules of conduct that must be followed by the intermediaries in the distribution of complex financial products to retail customers).[39] In particular, we must consider that the Communication of December 22, 2014 expresses Consob’s will to use its supervisory powers to ensure that the intermediaries will act in line with the above restrictive approach; and this, by explicitly stating that the decisions taken by the intermediaries will help the current (severe) Consob’s supervisory directions.[40]

In confirmation of the restrictive intent indicated above, the Italian approach (towards the aforementioned Opinions expressed by ESMA) shows that the EU financial market is characterized also by the obligation to provide, not only specific and substantial checks on the appropriateness and suitability of the financial instruments, but also specific information regarding the negative evaluation expressed by public supervisors.

In the long run, the regulatory environment of the MiFID (and, to some extent, the anticipation of the MiFID 2) shall request the intermediaries (which provide investment services and to those who carry out the placement activities of financial products issued by banks and insurance ex 25a, Legislative Decree no. 58/1998), to redefine corporate policies by providing the duty to conduct independent evaluations for the delimitation of the scope of the offer of financial products, by also identifying ex ante the products that do not lend themselves to the realization of the investment needs of its customers’.[41]

We are in the presence, therefore, of specific directions that affect both the organizational profiles and the internal management procedures (of intermediaries and issuers).[42]

That said, it is useful to point out that this Italian regulatory framework requires any intermediary to carry out a ‘proper due diligence’ on complex products (that it intends to offer), taking into account the customers’ interests, and the possibility of knowing information enough to assess the main characteristics and risks. This assessment will, obviously, be founded on the data provided by any issuer (i.e. any entity that produces and then places these complex products on the market).[43] In other words, these rules require any operator to carry out a sort of mapping of the information related to the offering, on the basis of the current data, by considering any possible feature useful to understand the level of complexity of the financial instruments.[44]

At this stage of the analysis, it is appropriate a concluding remark in order to question the reasons that prevented the competent authorities to introduce a total ban on the distribution of complex products. This refers, in particular, to the market structure outlined in MiFID (and refined by Directive 2014/65/EU), which – in light of the EMIR – should provide a procedure for the cases in which the intermediary, under its own responsibility, decides to distribute a product because – although the competent authority considered the latter unsuitable for the distribution – it contemplated the product as an adequate investment for the realization of his customers’ interests, and that the information available is sufficient to assess its main features and risks.[45]

8.     In light of the foregoing, it can be said that the intervention made by the EMIR is oriented towards the protection of customers, by safeguarding their information needs and decision-making processes. As we have seen, the EU regulator tries to reach this goal by intervening on the transmission of data in innovative ways,[46] on the meaningful collection of information and, ultimately, on the proper functionality of the market and its supervision mechanisms.[47] And it aims also at ensuring a cognitive activity properly carried out, in order to support a conscious determination of demand and supply (based on comprehensive information data).[48]

This regulatory framework appears in line with the fairness and transparency principles that inform the European financial system.[49] And this leads us to dwell on the scope of the innovations brought by the EMIR Regulation. In fact, it seems that these innovations do not always consider the information together with the related financial instrument (and, therefore, with the relevant contractual relationship). And this, both in pre and post negotiation phases.

Undoubtedly, the characteristics of Emir trade repositors seem to be in line with the evolution of communication processes, centralizing data in warehouses linked to the operators. This means that, since the stage of the product’s design, the negotiation of an OTC derivative may be followed by the activation of a specific information channel. For this reason Emir circulation mechanisms seem to be designed to evaluate the quality of the information itself, and to be preordained to trace their collection (and significance for supervisory purposes).

Today, the centralization of obligations – together with the upgrade of the previously existing structure of regulated markets – sets the stage for a new set up of the financial market. The implementation of the EMIR (and, therefore, of appropriate clearing and reporting mechanisms), in fact, gives us a glimpse of the possibility of a system able to ensure the integrity and transparency of the financial market (including the OTC segment).[50] This affects not only the improvement of the bilateral relationships’ system (interacting on the disclosure duties), but also the organization of an industry that will ensure a more effective protection of the «right to information».[51]

At the same time, we shall highlight that these elements are the key factors of a ‘market for financial information’, which is not yet considered as a reality by the EU regulator. This helps us to understand the reasons for the lack of rules for the operators that produce, share and elaborate financial information (and in particular for those of them that are not financial intermediaries). We remain, then, with the unsatisfied expectation that the EU will consider (and regulate) all the activities related to the demand and supply of information about market trends and financial instruments’ features.

In conclusion, it can be said that EMIR must be framed between the safeguards designed to avoid market disturbances, as well as among the remedies for harmful expansions of the shadow banking system. These goals should, therefore, be linked to the implementation of new models of regulation and self-regulation (that Emir introduces). Therefore, if a fast and full alignment of the operators to these principles will reflect the prevalence of a non-formalistic approach, then the positive effects of the new market structure can influence the performance of the business functions that produces financial information, the disclosure practices and the risk management mechanisms.

[1] This analysis follows the commitment of JUNCKER, Political Guidelines for the Next Commission, in A New Start for Europe: My Agenda for Jobs, Growth, Fairness and Democratic Change, Strasbourg, 15 July 2014 where he assumed that ‘To improve the financing of our economy, we should further develop and integrate capital markets. This would cut the cost of raising capital, notably for SMEs, and help reduce our very high dependence on bank funding.’

[2] See CAPRIGLIONE, Evoluzione della disciplina di settore, in VV.AA., L’ordinamento finanziario italiano, Padova, 2014, p. 118 ff.; SEPE, Borsa e Mercati. In generale, ibidem, p. 967 ff.

[3] See DOLGOPOLOV, High-Frequency Trading, Order Types, and the Evolution of the Securities Market Structure: One Whistleblower’s Consequences for Securities Regulation, in University of Illinois Journal of Law, Technology & Policy, Vol. 2014, p. 145 ff.

[4] See DEGRYSE – DE JONG – VAN KERVEL, The Impact of Dark Trading and Visible Fragmentation on Market Quality, in TILEC Discussion Paper, 2014, No. 2011-026; O’HARA – YE, Is Market Fragmentation Harming Market Quality?, in Cornell University – Samuel Curtis Johnson Graduate School of Management and Hewlett-Packard Laboratories working paper, 2009.

[5] See MASERA – MAZZONI, Derivatives’ pricing and model risk, in Law and economics yearly review, 2013, p. 296 ff.; SAVONA, Do we really understand derivatives?, ibidem, p. 280 ff.; see also AVGOULEAS, Regulating Financial Innovation: A Multifaceted Challenge to Financial Stability, Consumer Protection, and Growth, and FERRARINI – SAGUATO, Regulating Financial Market Infrastructures, both as forthcoming draft chapters in The Oxford Handbook on Financial Regulation, edited by Ferran, Moloney, Payne, Oxford, 2015, passim; LEHRBASS, Corporate Production and Hedging Decisions Under Dodd-Frank and EMIR, in USAEE Working Paper No. 14-170, 2014.

See also CAPRIGLIONE, I «prodotti» di un sistema finanziario evoluto. Quali regole per le banche?(Riflessioni a margine della crisi causata dai mutui sub-prime, in Banca Borsa Titoli di Credito, I, p. 20 ff.

[6] See Recital no. 4 of the EU Regulation 648 of 2012.

[7] See LEMMA, The shadow banking system, London, 2015, passim.

[8] See ENGST – TROISI, ESMA supervision. Specificity of the intervention in the derivatives market, in Law and economics yearly review, 2013, p. 347 ff.; see also MOELLERS, Sources of Law in European Securities Regulation – Effective Regulation, Soft Law and Legal Taxonomy from Lamfalussy to Larosière, in European Business Organization Law Review, 2010, Vol. 11, p. 379 ff.

[9] See GIESECKE, Credit Risk Modeling and Valuation: An Introduction, in Credit Risk: Models and Management, Vol. 2, London, 2004; see also ZHU – PYKHTIN, Measuring Counterparty Credit Risk for Trading Products under Basel II, in BASEL II HANDBOOK, 2006, p. 1 ff.; ID.,  A Guide to Modeling Counterparty Credit Risk, in GARP Risk Review, July/August 2007, p. 16 ff.

 See also CRÉPEY, Bilateral Counterparty Risk Under Funding Constraints — Part I: Pricing and Part II: CVA, in Mathematical Finance, Vol. 25, Issue 1, 2015, p. 1 ff. and p. 23 ff. on the valuation and hedging of bilateral counterparty risk on over‐the‐counter derivatives.

[10] Previously, in fact, the absence of a complete market discipline on information only opposed the regime of transparency, intended as a legal criterion of general application in savings’ markets. Indeed, in conducting the circulation of any data within the contractual relationship (including pre and post contract phases), a form of protection (mainly oriented towards the protection of the investor) was carried out, able to extend its beneficial effects over the bilateral environment, i.e. such as to contribute to the efficient movement of capital.

[11] See, in particular, the Commission Delegated Regulation (EU) No. 152/2013 by the Commission of the 19th December 2012 that re-integrates (EU) Regulation No. 648/2012 of the European Parliament and of the Council with regard to the regulatory technical standards on capital requirements for central counterparties.

[12] For the purposes of this investigation it should be considered that the data and information collected by the CCPs must be made available to the competent authority, to ESMA and to the members of the ESCB; Art. 29, Reg. 648/2012.

[13] With regard to the reliability of the methodologies adopted by CCPs, the obligation for an «independent validation» of the method adopted to communicate with the supervisory authorities also comes into account (Art. 49, Reg. 648/2012); see DUFFIE – ZHU, Does a Central Clearing Counterparty Reduce Counterparty Risk?, in Rock Center for Corporate Governance at Stanford University Working Paper No. 46, Stanford University Graduate School of Business Research Paper No. 2022. See, on this topic, JORDAN – JAIN, Diversity and Resilience: Lessons from the Financial Crisis, in University New South Wales Law Journal, Vol. 32, 2009.

[14] So that the relevant piece of information is not treated as an accidental element of another legal relationship (i.e. the investment service, asset management…), but is considered worthy of independent consideration.

[15] See (EU) Implementing Regulation No. 1248/2012 of 19 December 2012 laying down implementing technical standards regarding the format of the application for the registration as a trade repository where the option for a tool allows to store the information in a durable medium.

[16] See, on this matter, the Commission Delegated Regulation (EU) No. 150/2013 regarding the regulatory technical standards specifying the details of the application for registration as a trade repository on negotiations.

[17] See PELLEGRINI, Regole di comportamento e responsabilità degli intermediari, in VV.AA., I contratti del risparmiatore, Milan, 2013, p. 187 ff., in which are explored the recent European guidelines on policy configuration of the adequacy of operations, identifying a growing attention to the typical problems of behavioral finance. Economically, see LEUZ and WYSOCKI, Economic Consequences of Financial Reporting and Disclosure Regulation: A Review and Suggestions for Future Research, in SSRN paper no. 1105398, in which they identify «the firm-specific (micro-level) and market-wide (macro-level) costs and benefits of firms’ reporting and disclosure activities and … the potential costs and benefits of regulating these activities in various forms».

[18] Hence the appreciation for the option of identifying the underlying via a unique identifier (ISIN) and, at the same time, to identify the derivative by a unique product identifier, together with the counterparties and other entities involved in the operation (Articles. 3 and 4, Reg. no. 1247 cit.).

[19] Therefore, the only reference to the regularity of the transactions is exceeded; transactions that have developed in order to ensure not only the legitimacy of the bilateral relationship, but also the protection of general interests (such as the economic freedoms and the protection of social utility) recognized by our Constitution.

[20] See LEMMA, Autonomia dei fondi comuni di investimento e regolazione della gestione collettiva del risparmio, in Banca borsa e titoli di credito, 2011, II, p. 417 ff.

[21] As well as – at technical level – the Legal Entity Identifier, so called LEI, different from the one for management companies.

[22] For a general discussion on the question, see CAPRIGLIONE, The use of «derivatives» by Italian local authorities in public finance management. Still an issue, in Law and economics yearly review, 2013, p. 399 ff.

[23] See CAPRIGLIONE, The use of «derivatives» …, cit., p. 401.

[24] See Recital no. 2, of EU Regulation 1002/2013

[25] In stating that the aforementioned obligations are not required for the bodies in charge of the management of sovereign debt (Art. 1, paragraph 4, letter. A, Reg. Cit.), it should be noted that this restriction of the scope of the special rules if, on the one hand, appears to be justified by the desire of some Member States to protect their prerogatives, on the other does not seem appropriate to reduce the risks assumed by the central government. This, with obvious negative effects on the overall transparency of the financing operations of economic policies (and, in particular, the issuance of government bonds); see LEMMA, The derivatives of Italy, in Law and economics yearly review, 2013, p. 480 ff.

More generally, it should be noted that the results of the Pittsburgh Summits on 26 September 2009 (G20) have suggested to re-conduct standardized OTC derivative contracts to a central counterparty (CCP), following their reporting to trade repositories on the negotiations in an internationally consistent and non-discriminatory way; commitment reaffirmed in June 2010, at the G20 in Toronto.

[26] On this matter should be noted the results of the FLEMING – JACKSON – LI – SARKAR – ZOBEL, An Analysis of OTC Interest Rate Derivatives Transactions: Implications for Public Reporting, in FRB of New York Staff Report No. 557, 2012; which «examines the over-the-counter (OTC) interest rate derivatives (IRD) market in order to inform the design of post-trade price reporting. Our analysis uses a novel transaction-level data set to examine trading activity, the composition of market participants, levels of product standardization, and market-making behavior».

We can also refer to the Italian experience on the use of derivatives by municipalities and other public entities; see the analysis published in Law and economics yearly review, 2013, part. II, by PELLEGRINI, Financial derivatives. Regulation and disputes in the Italian legal order; PASSALACQUA, Derivatives financial instruments and balanced budgets: the case of the Italian public administration.

For a discussion of similar issues, but in the American context, see SGARLATA – CHUNG, Municipal Securities: The Crisis of State and Local Government Indebtedness, Systemic Costs of Low Default Rates, and Opportunities for Reform, in Albany Law School Research Paper, 2013.

[27] Which, in addition to the CCP, involve the direct participant, the customer’s direct participant and the indirect customer that allows the direct participant’s customer to offer the clearing services to the indirect customer; see Art. 1, paragraph 1, letter. b) (EU) Implementing Regulation No. 149/2013.

[28] It seems appropriate to point out that, in Directive 2004/39/EC, different types of trading venues (investment orders given by the customers) have been provided: regulated markets, multilateral systems and systematic internalisers. This makes the competition even more complex, involving subjects of different types competing with each other “for the market” (or rather, to increase their market share which is the number of transactions that take a particular location as a reference).

[29] See, in general, FIORAVANTI – GENTILE, L’impatto della frammentazione degli scambi azionari sui mercati regolamentati europei, 2011, in Quaderni di finanza Consob, n. 69, p. 31 ff.

[30]  In other words, the efficiency of the financial market – after the adoption of the MiFID -, appeared penalized by the absence of mechanisms responsible for the consolidation of information. This applies, in particular, to the loss of leadership by regulated markets (in the process of price formation), and to the impossibility of price discovery; see YAN – ZIVOT, The Dynamics of Price Discovery, in SSRN Papers, 2007, n. 617161.

[31] It should however be kept in mind that the search for concrete solutions to the problems indicated in the text led to the formulation of a revision proposal of the MiFID based on the centralization of data and information (via a «data communication service» and the use of authorized publication mechanisms, so called. APA); see Articles. 61-68 of the proposal cited.

Certain assessments that emerged during the preparatory work for the revision of the MiFID Directive should also be mentioned; in which the distribution of benefits arising from the increased competition between the trading locations for financial instruments has been critically evaluated; see Report on the Directive Proposal by the European Commission relating to markets of the financial instruments; repealing Directive 2004/39/EC, Brussels, 20 October 2011, p. 2. Consequently, it can be said that some of the news in question may represent the assumption of a substantial equivalence of regulated markets with systems alternative to them (also on the information surveillance information and therefore accountability level).

[32] Hence, the option, according to the Emir Regulation, to consider the objective significance of market data (that is, their ability to correctly indicate the economic sense of the operation that is going to be carried out).

[33] See (EU) Implementing Regulation No. 1249/2012 of 19 December 2012.

[34] This, in a context of operational flexibility ensured by the authority to delegate the reporting operations, see Recital no. 1, (EU) Implementing Regulation no. 148/2013.

[35] See see also POSNER, A failure of capitalism, Cambridge, 2009, p. 41 ff. on the banking crisis of 2008 and the descent into depression.

[36] See SABATINI – TAROLA, Transparency on Secondary Markets. A Survey of Economic Literature and Current Regulation in Italy, in Quaderni di finanza Consob, 2002, n. 50, p. 4, where it is stated that «the issue of market transparency refers to the clarity with which market participants (and the public at large) can perceive the process of securities trading».

[37] For this matter we must quote the famous AKERLOF, The Market for ‘Lemons’: Quality Uncertainty and the Market Mechanism, in Quarterly Journal of Economics 1970, p. 488 ff., starting point for the problem mentioned in this work.

[38] See Opinion of the 7 February 2014 with “MiFID practices for firms selling complex products” and Opinion of the 27 March 2014 with “Structured Retail Products – Good practices for product governance arrangements”.

[39] See ‘Comunicazione sulla distribuzione di prodotti finanziari complessi ai clienti retail’ adopted by Consob on the 22 December 2014.

[40] It is clear that Consob intends to proceed in the path traced by the recent Opinions expressed by ESMA on the subject, even if the high levels of protection of retail clients translates into the establishment of specific rules of conduct to be followed by the intermediaries.

[41] A similar recommendation is made towards the ‘qualified entities that issue financial products then distributed to customers through other intermediaries’. (Communication no. 97996/14, p. 4).

[42] See BOCCARDELLI – SUPINO, Institutions and financial markets: an institution-based view of derivatives, in Law and economics yearly review, 2013, p. 312 ff.

[43] The client will also be notified with specific information on the costs of the product (including implicit or mark-up), on the fair value and on the relevant risks.

[44] The preparation of a list of examples of some types of products considered very complex by Consob also identified; for these products Consob requires intermediaries to pay “increased attention”, also with regard to the possibility that the distribution agreements (between issuer/producer and intermediary/distributor) may produce a conflict of interest of the intermediary with those of the clients. Also important is the Consob call for the “profiling of the customer” that the intermediary must carry out with special care and depth.

A list of products considered by Consob as “normally” not adequate to retail customers comes to mind; these products are subject to a specific recommendation according to which the following products “are not recommended nor distributed directly… to retail customers”: i. financial products resulting from the securitization of credits or other assets; ii. Financial products for which, when certain conditions occur or by initiative of the issuer, the conversion to shares or the curtailment of the nominal value is provided; iii. The credit linked financial products; iv. The derivative financial instruments mentioned in Art. 1 paragraph 2, Letter d-j of the TUF not negotiated in trading venues, for purposes different from hedging; v. the structured financial products, not traded in trading venues, whose pay-off does not ensure the full repayment at maturity of the capital invested by the client.

[45] Hence, the duty (for the intermediary) to establish adequate safeguards against a decision that, in the opinion of Consob, raises the risk of conformity (of the same). In addition to the burden of proceeding to the formal adoption (by the top management of the intermediary) of a specific and reasoned decision on the commercialization of these types of products, after the investigation and opinions from bodies and control functions for the competent profiles, in compliance with the specific limits set out in the Communication no. 97996/14 with regard to socio-economic characteristics of the potential customer, the quantitative thresholds (investment and concentration) and how to offer the product.

[46] With regard to the transmission of information it is useful to distinguish the one that occurs in close environments to the legal relationship considered by the financial system from the one that is completely alienated by it; in fact, if the first type is directly linked to the communications carried out by the counterparty (present and future) of a financial services contract; to the second type are linked all those carried out by mass media. This because, to date, the protections provided for information that accesses the contracts in question are not extended to those that freely circulate within society.

See also BARSELLA, Insider trading e obblighi di divulgazione delle informazioni sui mercati finanziari, in Quaderni di finanza Consob, 1990, n. 1, passim, where particular aspects of the problem regarding the circulation of privileged information are identified. As well as VV.AA., Lavori preparatori per il Testo unico della finanza – Servizi e strumenti di impiego del risparmio, in Quaderni di finanza Consob, 1998, n. 28, p. 12 ff, where it is stressed that, at that time, the transparency and investor protection objective was assuming an increasing importance in the orientations and in the praxis of financial system regulation.

That said, it is useful to point out that the current Consumer Code sets a specific provision for the information of the consumer-saver in the event of distance commercialization of financial services to consumers (Art. 67a et seque. D. Decree 206 of 2005).

[47] With regard to the errors in the reasoning and in the preference and for the importance of the studies related to the so-called behavioral finance; see MARCHISIO – MORERA,Finanza, mercati, clienti e regole … ma soprattutto persone, in Analisi Giuridica dell’Economia, 2012, p. 19 ff.

See also CAPRIGLIONE,Etica della finanza mercato globalizzazione, Bari, 2004. p. 79 ff.; ID., Intermediari finanziari, investitori, mercati: il recepimento della MiFID: profili sistematici, Padova, 2007, passim

[48] It appears to be useful to re-affirm that, in replacing the known to the unknown, the information assumes a double importance as the result of the communications (of the informative agents) and the assumption of the necessary knowledge for the management (in aware modalities) of the capitals owned by the savers (intended as cognitive operators); see LEMMA, Informazione finanziara e tutela del risparmiatore, in VV.AA., I contratti del risparmiatore, Milan, 2013, p. 259.

[49] It goes without saying that the regulation of the market must be re-conducted to the duties of the financial regulator, where the protection of the information acquisition process is functionally related to the regularity of the price formation process (because of its effect on the progress of supply and demand). Thus, the public intervention placed as a guarantee of the correct flow of information rises as a safeguard element for the savings entered in the financial markets and therefore, directly attributable to the provision of Art. 47 of the Italian Constitution.

[50] Ultimately, in addition to the consolidation of the financial data (as required by the Emir Regulation), hopefully one will have to proceed towards the supervision of the subjects that – for various reasons – set and elaborate the information about the capital market (as a whole) and the individual transactions (in particular).

[51] In other words, against such a reality, a regulatory re-ordering becomes desirable, aiming at coordinating the regulation of the information related activities taking place in different areas of finance; intervention that appears even more necessary where the special regulations and sectorial ordinances have the same objectives (for example, that of avoiding behaviors that bear upsets to the equilibrium of the economic system); see SANTONI, Giornalisti. Profili costituzionali, in the Enc. Giur. Treccani, Rome, where are examined certain constitutional problems that appeared in the praxis of this profession. See, also, the Italian document La Carta dei doveri dell’informazione economica, Decisione Consiglio Nazionale dell’Ordine dei Giornalisti, 28th March 2007, referring to Art. 114 D. Lgd, no. 58 of 1998 and Art. 69 g of CONSOB Regulation no. 11971 of 1999.


Susan Clements is Head of European Commercial Law Observatory. She has Diplomas in Legal Practice and Law at the College of Law, Guildford, and Politics MA Honours (First Class) and Certificate of High Scholarship, respectively at The University of Edinburgh and the University of Washington.

Valerio Lemma is Associate Professor of Law and economics – Law Faculty – Università degli Studi Guglielmo Marconi in Rome and Coordinator at «Financial market regulation» master programme at Luiss University. He is Visiting Associate Professor at Centre for Banking and Finance – Regent’s University of London.

Although this paper is the result of a joint reflection of the authors, Susan Clements wrote the paragraphs 1-2 and Valerio Lemma wrote the paragraphs 3-8.

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