Following on from our recent webinar ‘SFTR Reporting – the highs, the lows and the year ahead‘, Senior Consultant Richard Comotto and Kaizen’s Jonathan Lee look back at the first year of SFTR and ask what’s next for this most complex of reporting regimes.
Impressive, ambitious delivery in the midst of a pandemic
The initial SFTR delivery was a remarkable success story given the Covid pandemic, delivered as it was from employee’s bedrooms and breakfast tables. More prescriptive regulatory texts helped to an extent with many lessons learnt from EMIR and MiFID II, particularly regarding the creation and sharing of unique trade identifiers (UTIs). Following the pain of EMIR, all credit should really go to the industry for such a successful delivery in such difficult circumstances.
Trade repository ACK rates were extraordinarily high
The trade repository (TR) accepted rates were exceptionally high from day one, aided by the three-month delay to implementation and an extended user acceptance testing period. However, merely meeting the validation rules requirements has been the easy part of this delivery.
SFTR public data has been poor but telling
TRs published data has been poor, but has indicated lower volumes and notional traded than expected or anticipated. Methods used to compile the data have been opaque and together with published data vary significantly between TRs. The lack of useful market data as part of the TRs published data has also been a source of frustration.
On one hand, data indicates some under-reporting of collateral data and possibly loans too. On the other hand, signs of double counting of loans exist where both counterparties have a reporting obligation, especially when reporting to different TRs. Potentially, some firms trading SFTs have not reported any transactions at all, while others lack collateral updates, valuation updates, re-use updates, margin updates or modifications as required under the regulation.
Many grey areas and regulatory requirements that lack clarity
The lack of clarity in areas such as bilateral margin reporting, collateral re-use & cash reinvestment reporting, and the reporting of commodity financing transactions has led to an apparent lack of reports covering these areas. In spite of repeated industry presentations prior to go-live about the significance of bilateral margining for repo, it has proved something of an after-thought in the reporting taxonomy. Indeed, Jonathan stood up at the ESMA Paris hearing in November 2016 suggesting that bilateral margining had such significance, it warranted its own reporting table under SFTR – sadly, this fell on deaf ears. Under-reporting is often easy to spot, particularly in the wholesale lack of collateral updates relative to market convention in repo markets.
Late publication of guidelines, the final report and Q&As, often incomplete, muddled, confusing and not without error, have further diminished data quality and completeness. There has been a tendency to answer one question, while posing others, leaving the industry rather perplexed. We hope that the schemas, validation rules, guidelines and Q&As will evolve and improve but this is likely to be a slow process.
The majority of reported activities are valid but wrong
Kaizen’s quality assurance indicates that a large proportion of reporting counterparties benefit tremendously from regulatory testing. The majority of reports tested for the first time by Kaizen exhibit errors and questionable population, typically reported with valid (they pass trade repository validation rules) but wrong data. A survey poll of respondents during our recent webinar indicated that only 22% acknowledged the scale of the data quality issue (selecting 76%-100% of reports as valid but wrong). The actual figure is 93%.
The TR reconciliation process is woefully ineffective as a data quality control
The principle mechanism regulators put in place for promoting data quality under SFTR is the TR reconciliation. The concept is that if both firms submit reports directly from their books and records then trades and post trade lifecycle events should ultimately match and provide assurance that if both sides agree the data must be correct. This has proven to be a rather naive premise for two key reasons:
- The vast majority of SFTR reports are single-sided and not subject to the reconciliation. According to DTCC, these figures currently stand at 76% in the EU and 86% in the UK. When surveyed during our latest webinar, only 32% of webinar participants polled began to appreciate the ineffectiveness of the trade repository reconciliations (selecting the level of TR reconciliation at 0-25%).
- SFTR was so ambitious in its data reporting requirements that a large proportion of reporting counterparties don’t have enough reference data or static data to complete a report. Therefore, much of the data is sourced from third parties, not the reporting firm’s books and records and is of mediocre to poor quality.
Firms are committing significant resources to addressing TR reconciliation breaks, but potentially at the expense of ensuring the accuracy and completeness of their own reporting. From a data quality standpoint it looks grossly ineffective. Unfortunately, the costs of SFTR to the industry thus far, appear to far outweigh the benefits to regulators.
Regulatory testing is the key to unlocking SFTR data quality
At Kaizen, we have repeatedly urged our clients to focus on the quality of their own SFTR reporting, empowering them to be in a position to stand up to their counterparties in the TR reconciliation space and to regulators where necessary.
Regular, periodic, full universal quality assurance through regulatory testing enables firms to gain a tight grip on the reporting errors they are making. Armed with this information, they are able to prioritise fixes to maximise efficiency, keep regulators on-side and nip issues in the bud. Subsequent test runs ensure necessary remediatory progress is being made, new business deliveries do not break reporting accuracy and new Q&A, guidelines, schemas and validation rules are accounted for.
- If you would like to explore how Kaizen Reporting can help your firm be truly SFTR compliant, please contact us.