The need to exchange UTIs under SFTR has proved to be a tough nut to crack. Could a little-known SWIFT message be the answer?
Of all the thorny issues the Securities Financing Transactions Regulation (SFTR) has thrown up so far, few have proved as fiendishly tricky as the need to exchange a unique transaction identifier (UTI). Under SFTR, a UTI, as the name suggests, is a one-off alphanumerical code of up to 52 characters that must be generated by one counterpart and sent to the other at the trade matching phase. This code must then be included in transaction reports both counterparts send to a registered trade repository on a T+1 basis.
We have faced UTI requirements before. They first appeared among the data points for reporting over-the-counter derivatives under the European Markets Infrastructure Regulation (EMIR). But, SFTR is different. The need to exchange UTIs for all trades involving both securities and cash almost instantaneously adds several layers of complexity to the challenge posed by EMIR’s reporting regime.
Several vendors offering SFTR reporting services include UTI generation and exchange tools among their product suites, but difficulties remain if trading counterparties are not using the same vendor solution. Meanwhile, a firm that decides to go-it-alone is faced with the unenviable task of negotiating bilateral agreements with each of its counterparts. An in-house solution would also require a firm to manually share or receive UTIs by email or phone for each trade.
Many of the tier-one banks will now be well down the path of building pipes to one or all of the SFTR vendors in order to best serve their beneficial owner clients and access the largest number of borrowers possible. For them, the UTI exchange issue may have only been given the briefest of attention several months ago before it was swept up in the full SFTR solution package they signed up for.
For others, including the smaller players, the debate on what the best model is for the industry as a whole is far from over.
Last week, in Denmark, an alternative method for UTI exchange went into pre-production testing. Advocates of the solution say it will commandeer SWIFT’s existing messaging infrastructure to provide a way to automatically swap UTIs quickly and cheaply with the minimal technology lift required.
The project is being spearheaded by the Danish Bankers’ Association (DBA) in collaboration with the country’s central securities depository (CSD), VP Securities. The idea to use SWIFT messages to meet SFTR’s reporting requirements was originally pursued by the association as a solution for bilateral repos but it is now being eyed for other trade types under the remit of SFTR, including securities lending.
What’s on offer?
Following the discovery of a UTI indicator field in the SWIFT Standards Release in 2019, DBA’s SFTR taskforce approached VP Securities to see if there was a way to use this framework to create a rapid and automated solution for SFTR’s reporting requirements.
This led to the formation of a way to exchange UTIs between the generating and receiving counterparties via the ISO MT548 or sese.024 match confirmation messages, which are being sent back to both instructing counterparties upon trade match in the CSD.
The solution would entail the generating counterparty entering the data into the designated SWIFT field and sending that to the relevant CSD, which would then pass that onto the UTI-receiving counterpart. It would also be possible for the CSD to act as a service provider and generate a UTI on behalf of the counterparties, thereby removing the risk of UTI-duplication.
The association says this method is viable with all ISO and proprietary instruction formats such as ISO 15022 and the newer ISO 20022.
The solution began pre-production testing last Monday and is expected to go live in June.
One of the solution’s most outspoken advocates is Line Vesth, a post-trade regulation and financial infrastructure specialist, who serves as a senior specialist at Nykredit, a Danish asset manager, and sits on the SFTR taskforces of DBA and the International Capital Market Association (ICMA).
“This solution is potentially ground breaking because it removes the need for third-party vendors and manual file-exchange, which is obviously not so great for those that have built a whole platform for UTI exchange and plan to use it as a cash cow, but for the whole industry it could solve a huge problem,” she says.
It also side-steps the potential for a “data security catastrophe,” she adds. “If there’s a breach somewhere along the line or your vendor or file exchange via unsecured channels is compromised, for example, then your client’s data could be exposed and shared. It could be a data security disaster.”
According to Vesth – who also helped DBA with its work implementing EMIR’s UTI requirements – the infrastructure being proposed only requires the counterparties, sub-custodians and global custodians to make a “minor refinement” in their systems to add new functionality to implement one existing field within the normal settlement instruction infrastructure.
“A lot of our counterparties are fed up. They don’t want to do any more work but we are just stressing that this is such a small tweak and it would reduce a quite significant cost from their bottom line,” she says. “The cost difference between a vendor solution and what we are proposing is significant.”
Problem solved?
Not quite. The main snag is that one of the solution’s primary selling points – the leveraging of existing messages to avoid a major technology investment – may, in reality, only apply to bilateral repos.
By virtue of the UTI needing to be exchanged at the trade level, the only SWIFT message it could hitch a ride on for a stock loan transaction is called ISO MT518, which is SWIFT’s confirmation message for trades involving securities.
If you’ve never heard of it don’t worry, you’re not alone. Few in the securities lending world seem to know it exists, let alone use it. And herein lies the problem. Although you would be hard-pressed to find a financial entity that doesn’t use SWIFT messages to some degree, the application of this channel for UTI exchanges under the terms required by SFTR represents a major IT project. It would require a firm to incorporate the facility to accept and send a new type of message and then get its traders to shift to a new method of communication with their opposite numbers.
Moreover, these technical and cultural challenges are compounded by the fact that what may work well in the insular trading environment of Denmark – which has a single CSD that’s willing to do the essential work required – may not apply in the much larger and more complex European securities finance market as a whole.
The nuance in trade flows such as the difference between principal lending versus agent lending structures, plus all the other links that could exist in the chain including central counterparties, makes the SWIFT model proposition more difficult to imagine taking hold right away.
But, the existence of these hurdles is neither surprising, given the lack of industry-wide effort to overcome them, nor a death knell to the idea; and Vesth is undaunted.
Vesth stresses that she has no commercial interest in getting others to pursue the SWIFT solution. She simply sees it as her duty to make as many of the entities living under the shadow of SFTR aware that other options to exchange data exist.
“I have my own business sorted as the bulk of our transactions are in the Danish market, and very few counterparties are not on this solution,” she says. “But I am a die-hard idealist, and I believe in what the regulator is hoping to accomplish with these requirements, which is less opacity based on reporting by leveraging the infrastructure and foundations which are already in place and functioning well.”
As well as being an idealist, Vesth is a realist. She emphasises that the SWIFT model, at least in its current form, is not a panacea for every entity and transaction captured by SFTR. But, she argues, it should not be dismissed out-of-hand because every model that exists today has its flaws.
“Although I understand why some players have their doubts, I will be happy to show our results when we have the data to substantiate why this solution is the lesser of all the evils associated with exchanging UTIs,” she states.
The technical issues for adopting this solution are far from insurmountable. However, the real enemy this option faces is more existential: time.
Has the horse bolted?
Despite the efforts of the solution’s advocates, which includes presentations by Vesth to her peers at ICMA in December and by VP Securities to the Securities Market Practice Group (SMPG) in March, Vesth admits that very few are aware it exists. But, it has caught the attention of some outside of Denmark.
Neil Davies, who leads Clearstream’s SFTR activities and also sits on the taskforces of ICMA and the International Securities Lending Association (ISLA), stumbled upon the work of DBA and VP Securities last year while looking into the same SWIFT Standards Release.
“While a SWIFT-based solution is probably not feasible in all UTI-sharing scenarios, it does seem strange that the de facto means by which financial institutions share information isn’t going to be playing a more significant role when it comes to passing UTIs around,” he notes.
However, Davies says his initial curiosity was stifled when he encountered a lack of appetite by others in the industry to explore a new UTI-exchange model this late into the implementation process of firms’ SFTR solutions.
Setting aside concerns around the complexities that would come from applying a single SWIFT model to all the variations in which an SFT can occur, Davies says the real issue is that this proposal had simply come too late.
Davies explains: “The problem is that most of the vendor solutions that incorporate a UTI-sharing capability come at a significant cost (building new pipes then ongoing charges) and so now many people are saying that it’s a shame we don’t have a common way of doing it that’s less expensive.”
“If people had come to this conclusion a year ago we could have maybe more widely embraced a SWIFT-based solution for some flows, but because it wasn’t a priority until recently it’s now too late,” he laments.
With reporting under SFTR due begin in July, Davies says: “You would really need ISLA and/or ICMA to steer people in this direction if there is an appetite for it to gain traction.”
To this point, the head of ICMA’s SFTR taskforce, Alexander Westphal, says that although the association is happy to provide a platform for viable solutions to be discussed, it cannot push its members towards what is ultimately a commercial product, at the expense of others.
Meanwhile, Adrian Dale, who leads ISLA’s SFTR efforts, adds that his association also welcomes discussion with market participants, trade associations and vendors to further improve communication between counterparties.
“Many regulations, especially SFTR and the Central Securities Depositories Regulation (CSDR) as it relates to securities lending, have undoubtedly heightened the demand for standard approaches in our market,” Dale says. “Standards are required not only to support regulatory obligations but also to improve settlement efficiency and exposure management.”
How did we get here?
Vesth concedes that the solution is coming at the 11th-hour but notes that the discussions around the most efficient way to exchange data and report transactions will not cease when phase one and two reporting starts.
“We’re annoyed at ourselves for not thinking of this two years ago because everyone has been discussing it. It’s just a matter of not having the right people in the same teams at the right time.”
Here, she hits upon the first half of the answer to the question of why a potential remedy to a problem that had vexed the entire European SFT market for years was only discovered a few months ago: a breakdown in communication.
Why didn’t SWIFT announce its plans to include a UTI indicator field way back in 2019? To this, Vesth says: “They [SWIFT] are just a service provider for messaging, but they don’t tell us all the ways we can exploit that. It’s for the industry to figure out all the applications for these tools.”
So why didn’t that happen until late last year? “The problem is that the people in the industry discussion groups are not necessarily the same people in the regulatory projects,” she explains. “The people in the SFTR project groups had the knowledge of what we needed to exchange a UTI but they were not in the groups discussing the SWIFT formats. It’s a problem with project management within banks.”
It is worth noting that SFTR does not exist in a vacuum. Associations and their members have faced a deluge of challenges in recent years. Ranging from other regulatory frameworks, such as CSDR, all the way through to adapting to new market trends – think environmental, social and governance (ESG) financing – and, now, global pandemics. In this context, it is easy to see how the relatively mundane issue of exchanging UTIs could fall through the cracks.
What’s next?
The viability of the SWIFT model rests primarily in the hands of the CSDs and the international CSDs (ICSDs). If they do not make the technical adjustments needed the whole project falls at the first hurdle. Here, Vesth says she’s hit a wall.
“We started approaching the ICSDs but I’m having a really difficult time instigating a dialogue with some of them,” she says. “They say they have SFTR sorted and they don’t want to hear from me.”
As a result, DBA has had to change tack. Similar to the way banks are being pushed to by their clients adopt ESG policies into every aspect of their investments and processes, Vesth says she is now encouraging firms to pressure their CSDs into making the UTI amendments.
Efforts are already underway to stimulate this process. When a delegation from VP Securities presented the SWIFT model at the SMPG meeting in South Africa earlier this year it also encouraged those present to make the amendments to the SWIFT messages mandatory for all members. SMPG’s membership is mostly made up of banks and investment companies but does include some CSDs and ISCSDs, such as Clearstream and Euroclear.
A voting process on the matter among SMPG members will finish in June. If they vote in favour of making the changes mandatory for members then it will either be put into implementation in April 2021 if it’s fast-tracked or November 2021 under a regular timetable. Regardless of whether the vote goes in her favour or not, Vesth says she is “positive” that eventually the data will prove her point once Denmark is shown to be outperforming other markets in areas such as matching rates.
“I really think this is what the regulator intended when they outlined this requirement but they can’t say it because it would be messing with the capital markets, and the prerogative of private companies to choose their own path to compliance,” she emphasises. “SWIFT is already the standard message communication system to exchange data between financial counterparties, and standardisation and harmonisation of communication is the cornerstone of the reporting regimes we are facing across many of the regulations coming into force these years.
“I strongly believe this approach is in line with the regulators’ desire for all players to leverage existing infrastructure, instead of taking on new systems and formats, which is just adding to the complexity already associated with transaction reporting.”
