EU derivatives decision leaves London in the lurch

Updated 26 Nov, 2020

LONDON: London's dominance of the multi-trillion dollar global derivatives market is at risk after a regulator said on Wednesday banks in the EU will have to use trading platforms within the bloc after the completion of Brexit on Dec. 31.

The City of London's unfettered access to the European Union, its biggest customer, ends when the Brexit transition arrangements expire, and Brussels wants trading in euro-denominated derivatives to remain within its jurisdiction or in a country with "equivalent" standards to the bloc.

The Paris-based European Securities and Markets Authority (ESMA) on Wednesday confirmed that from Jan. 1 EU investors would have to use a swaps platform inside the bloc, or based in a non-EU country such as the United States that has already been granted "equivalence" or permission.

This means that branches of EU banks in London will face conflicting EU and British requirements on where to trade derivatives.

The City of London touts itself as the go-to location globally for trading derivatives - the life blood of financial markets, allowing investors to bet on a swathe of assets and hedge risk.

"The decision is a starting gun for a fight between the UK and the EU for the location of international derivatives trading in Europe," said Michael McKee, a financial services lawyer at DLA Piper law firm, adding that France and Germany hoped to pick up the spoils.

Banks have already been moving some positions in derivatives from London to the new EU hubs ahead of Brexit.

While the rules would not create the sort of systemic disruption of areas such as clearing the contracts, which has already been smoothed over with temporary equivalence, it does signal that the EU is prepared to play hardball as Brexit injects a sense of urgency into reducing its reliance on the City of London for core financial services for its economy.

"ESMA acknowledges that this approach creates challenges for some EU counterparties, particularly UK branches of EU investment firms," the watchdog said.

Britain's Financial Conduct Authority said it would not be adjusting its approach to derivatives trading at this time.

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