The UK Financial Markets Law Committee (FMLC) has published a paper on issues of legal uncertainty arising in the context of indirect clearing of exchange traded derivatives under the Markets in Financial Instruments Regulation (MiFIR).
Specifically, the paper examines the requirement in Article 4(7) of the draft regulatory technical standard 38 (draft RTS 38) issued by the European Securities and Markets Authority (ESMA) in December 2014. This provision provides for a clearing member to establish procedures for the default of a client which include “steps… to initiate the return of the liquidation proceeds to the indirect client.” The FMLC states that the effect of this provision is to require a clearing member to make payments of collateral to an indirect client (“leapfrog payments”) in the event of a default by a direct client. The FMLC is concerned that the requirement may conflict with existing insolvency laws of Member States, as well as any insolvency rules in third countries to which a direct client may be subject.
The FMLC notes that ESMA has sought to deal with potential conflicts of law by virtue of Recital 5 of the draft RTS 38, which provides that the provisions of draft RTS 38 will prevail over any conflicting laws of a Member State. However, the FMLC states that it is uncertain whether the provisions of regulatory technical standards can effectively override conflicting laws of a Member State. It adds that it is unclear in respect of the requirement to make leapfrog payments of whether it is mandatory in all circumstances or whether it is subject to exceptions, such as where there are conflicting insolvency laws applicable to the direct client. The uncertainty gives rise to the risk that leapfrog payments could be susceptible to challenge by insolvency practitioners appointed in respect of the direct client, resulting in a negative impact on wholesale financial markets. The FMLC requests that the relevant provisions of draft RTS 38 are clarified in these respects.