European Commission proposals on the Capital Market Union and Clearing

The European Commission's latest proposals to take forward the Capital Markets Union (CMU) action plan contain a long-awaited deliverable from the plan — an attempt to harmonise insolvency practices across the Union — as well as continuing efforts to make it easier to raise capital on EU public markets. Other proposals were not in the original action plan but address issues in the clearing sector that have arisen as a result of recent market volatility and the continued dominance of UK clearing houses in EU clearing.
 

EMIR 3.0

The proposals contain a few different strands amending EMIR and other regulations to address the current issues in EU clearing.

Continued dominance of UK central counterparties (CCPs) in EU Clearing

The Commission's view is that the continued dominance of UK CCPs in EU clearing services causes financial stability risks to the EU, and that to strengthen the CMU the EU needs to reinforce its domestic clearing capacity. The main proposals are to:

• Require all market participants to hold active accounts at EU CCPs for clearing at least a portion of certain systemic derivatives contracts — ESMA will be tasked with specifying the level of clearing to be done through EU accounts.
• Require EU clearing members to report to their supervisors the scope of clearing undertaken at non-EU CCPs and inform clients when contracts can be cleared at EU CCPs.
• Simplify the procedures in EMIR for EU CCPs to follow when launching new products and changing risk models, aiming to make EU CCPs more attractive.
• Amend the UCITS Directive and Money Market Funds Regulation so that rules on counterparty exposure limits for derivatives transactions reflect the risk mitigation of central clearing. The Commission will also address the disadvantageous prudential treatment faced by insurers if they become direct clearing members through revisions of Solvency II.

Improving the safety and resilience of the clearing ecosystem

Recent price spikes and extreme volatility in energy derivative markets have led to liquidity issues for energy companies because of higher margin calls linked to rising prices. A similar issue occurred across the market at the onset of the COVID pandemic — 'The Dash for Cash'. This volatility has also highlighted to the Commission the need for better information on the relationships and interdependencies across the entire clearing chain: even if CCPs are robust, market participants' liquidity issues may result in vulnerabilities which must be identified and addressed.

The proposals address this by amending EMIR to:

• Require clearing members to inform their clients on the working of the CCP margin models.
• Require CCPs to continuously revise the level of their margins taking into account any potentially procyclical effects of such revisions.
• Allow bank guarantees and public guarantees to be to be considered eligible as highly liquid collateral.
• Only allow CCPs to accept non-financial counterparties as clearing members if they are able to demonstrate that they are able to fulfil the margin requirements and default fund contributions, including in stressed market conditions.
• Improve cooperation and information sharing between national CCP supervisors, ESMA CCP supervisory committee, the ECB, ESRB and the SSM — such as by implementing joint supervisory teams.

Clearing members (which are mainly large banks) are supportive of the measures to approve EU CCPs' attractiveness and resilience. However, they are less supportive of the proposal to have mandatory EU CCP active accounts, stating that the splitting of books will lead to a loss of netting benefits and efficiencies which will generate additional costs for market participants. The introduction of thresholds could also bring complexity to the management of trades. It also remains to be seen, given these proposals, whether the temporary equivalence granted to UK CCPs will be extended beyond June 2025.

Insolvency Directive

The proposal to harmonise the corporate insolvency regime will be welcomed as the lack of a harmonised regime has long been identified as one of the key obstacles to greater integration of the EU's capital markets. A new corporate insolvency directive will include rules on:

• Actions to preserve the insolvency estate (i.e. avoiding actions by debtors that would reduce the value that creditors can get).
• Creditors' committees to ensure a fair distribution of the recovered value among creditors.
• So-called “pre-pack” proceedings (i.e. where the sale of the business is agreed before the insolvency starts).
• The duty on directors to timely file for insolvency to avoid that the value of the company deteriorates.
   

Listing

This package of measures aims to simplify the listing process to encourage greater use by EU corporates of public markets (rather than bank lending) to raise financing.

The proposal amends the Prospectus Regulation, Market Abuse Regulation and MiFIR/ MiFID II, repeals the Listing Directive, and proposes a new directive on multiple-vote shares to:

• Simplify the prospectus requirements.
• Simplify and clarify some market abuse requirements.
• Encourage more investment research especially for small and medium sized companies via further amendments to MiFID II. These would increase the threshold from EUR 1 billion to EUR 10 billion market capitalisation below which unbundling rules do not apply.
• Allow company owners to list on SME growth markets using multiple vote share structures.
   

Implications

The package of measures proposed by the Commission will now be debated by the European Parliament and Council, so it is likely to be at least 18 months before adoption. The package evidences the Commission's continued commitment and efforts not just to grow the EU capital markets but also to manage the stability of those markets in the interests of EU Member States. The impacts of these wide-ranging proposals will vary depending on individual firms' business models so will need careful consideration and monitoring as the proposals are debated. Firms will also need to track international developments relating to margin requirements, including workstreams led by the Financial Stability Board.