GFMA Gives its Two-Penneth on Categorisation of FX Transactions

On 25 March 2014, the Global Financial Markets Association (GFMA) published a letter addressed to the EU Commission and the European Securities and Markets Association (ESMA), regarding the regulatory treatment of “FX Security Conversions”.  The letter follows the exchange between ESMA and the EU Commission regarding the treatment of certain FX products and commodity forwards for the purposes of MiFID and also EMIR (see this blog post for more detail).

“FX Security Conversions” are FX transactions entered into solely for the purpose of facilitating the purchase/sale of a foreign security.  Typically, the FX transaction necessary to acquire (dispose of) the foreign currency required to purchase (obtained as a result of the sale of) a foreign security will settle on the same day as the settlement of the security transaction itself.  In some cases, this settlement period can exceed T+2, generally understood to be the point at which a spot FX transaction becomes a forward transaction and therefore a “financial instrument” for the purposes of MiFID and also subject to EMIR.

The GFMA asks that “FX Security Conversions” be regarded as spot FX transactions irrespective of their settlement period due to the fact that they are merely incidental to the main purpose of the transaction (the purchase/sale of a foreign security).  In light of international efforts to shorten securities settlement cycles to T+2 (and eventually T+1), the GFMA implies that such classification as a “financial instrument” would be disproportionate, would expose market participants to unnecessary administrative burden and operational risk and would result in the EU being out of step with other markets, such as the US and Canada.

The GFMA raises a number of valid points in its letter.  It rightly points out that regarding such a transaction as a “financial instrument” for the purposes of MiFID, and therefore subject to the reporting obligations under EMIR, would provide precious little to regulators in terms of increased market place transparency.  To its credit, the EU Commission appears ready to give the matter its full consideration but it will be some time yet before we see how this all plays out.

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