EDHEC-Risk Institute welcomes delay of European Parliament vote on the regulation of financial benchmarks and calls for high and uniform standards of transparency to allow investors to make informed decisions and promote integrity, competition and innovation in the indexing industry.
Needing more time to reach consensus, the European Parliament’s Economic and Monetary Affairs Committee has delayed[i] its vote on the proposed regulation of financial benchmarks amid divergences over the scope of the regulation and the supervisory role of the European Securities and Markets Authority (ESMA).
To reduce the risk of benchmark manipulation, the European Commission proposed[ii] to regulate a very wide spectrum of indices, while subjecting inter-bank interest rate benchmarks, commodity benchmarks and critical benchmarks[iii] to additional requirements. Given the onerous compliance requirements that the Commission proposed to impose on all benchmark providers irrespective of the quality and transparency of their indices, EDHEC-Risk Institute welcomes the Committee’s proposals to focus the regulation on critical, vulnerable or systemically relevant benchmarks while further expanding the scope of the indices covered by the regulation, and to mandate ESMA to develop regulatory technical standards for a risk-based proportionate implementation. Such an approach avoids imposing costs which, owing to the oligopolistic nature of the indexing industry would likely be passed on to end-investors, and which, falling disproportionately on smaller and less-established providers, would support further industry concentration with adverse investor welfare consequences in the form of increased pricing power by leading providers and reduced innovation.
At the same time, EDHEC-Risk Institute calls upon the Committee and the European Parliament to ensure that all benchmarks used in the European Union be required–on a complimentary basis and on fair and non-discriminatory terms–to provide both historical data (e.g. index levels, components and weightings) and detailed methodology to permit independent historical index replication on a non-commercial basis. Such transparency would allow all interested parties to verify the integrity of track records and measure the extent of discretion exercised in the application of methodologies. More importantly, it would enable investors to assess benchmark suitability by analysing the benefits, risks and costs of indices in the context of their particular objectives and constraints as well as integrate indices into a modern risk and investment management framework. [iv] [v]
By adopting this standard of transparency, which exactly corresponds to that introduced by ESMA for the eligibility of financial indices within UCITS[vi], the European legislator would not only allow the appropriate use of robust and reliable benchmarks, which is the other objective of the proposed regulation, but also foster information-based competition and further innovation in the indexing industry.
[i] From 30 January to 17 February.
[ii] COM(2013) 641 final.
[iii] Benchmarks that notably “reference financial instruments having a notional value of at least 500 billion euro” (COM(2013) 641 final)
[iv] As noted by the Commission in the impact study (SWD(2013) 337/2) accompanying the proposal: “With access to both the data and the methodology, investors and regulators would be able to replicate or back test the benchmark in order to assess its accuracy. Full transparency about what the benchmark measures, how it should be used and its shortcomings would enable regulators and the public to be fully informed about the economic reality a benchmark is intended to measure and of any shortcomings it may have in tracking this.”
[v] The Committee correctly notes: “It must be the interest and responsibility of the user to make her, his or its own judgment of the use of the benchmark.” (AMENDMENTS 351 – 677, PE523.055v01-00, p.32.)