Good news for British FX brokers: Post Brexit regulatory framework for EU business ‘minimialistic’

A very predictable resolution to post-Brexit financial markets regulation for British FX and CFD companies is likely to be announced within the next few days.

Despite the mass hysteria that has been peddled by inexperienced and sensationalist mainstream media across London, and the socialist, pro-EU diatribe which has dominated European tabloids over the past few weeks, a very minimalistic approach to cross-border regulatory reporting and transaction accountability for electronic financial services firms is likely to be set in place.

British Treasury minister John Glen is set to lead post-Brexit talks with the EU this week to strike a “memorandum of understanding” that will guide future regulatory cooperation on financial services.

Senior UK government officials have said that any agreement struck will only provide minimal access to EU markets at the absolute best and will more likely only set up a method for UK and EU regulators to swap information on decisions.

Boris Johnson’s Brexit trade deal does not include an EU-wide arrangement for financial services, with UK firms instead having to negotiate a patchwork of individual EU nations’ regulations.

The only way the City of London can maintain its pre-Brexit access to the EU is if Brussels grants regulatory equivalence, however Brussels believes the UK is destined to diverge from its financial services regulations and has withheld the designation.

One source close to the crunch UK-EU financial services talks has said this morning that the issue of equivalence will not even be touched by either side. “There’s no evidence at all that three will be a joint management for equivalence decisions – these are a unilateral measure,” is the opinion of a senior official in London.

“What’s more likely is a transparency mechanism, which needs to acts as a platform for how we work together with the EU.”

Another source was slightly more optimistic and said there was a chance Brussels may grant EU-wide access to financial services “on the margins”.

They said this could mean securing access, for example, only to EU derivative markets and not to the wider range of more lucrative markets.

“It’s not going to be a huge equivalence deal – in the best case scenario it will be incredibly minimalistic, but there are good reasons for the UK to go above and beyond the agreement just being a talking shop.” is the viewpoint from London today.

It was always clear that no disruption would take place, and firms that have taken the rather odd step of rushing to move assets to European derivatives venues had jumped the gun, and expended resources by locating their intellectual property in regions of the world that are far less significant than London on the world stage.

Let’s not forget, it is the EU that needs Britain, not the other way around.

With regard to regulation, no non-bank financial markets regulatory authority has anywhere near the credibility of the Financial Conduct Authority (FCA) and international firms do not rally to set up FX brokerages in France, Germany or perish the thought Italy, they do so in London.

As do non-bank market makers, infrastructure providers, liquidity providers and institutional trading companies, all underpinned by the finest and most comprehensive financial markets infrastructure in the world, and backed up by a locally resident base of global talent which effectively operate the whole world’s financial markets from within one square mile, and the banks of the docks at Canary Wharf.

Conversely, Germany’s BaFin is not only incompetent, but also business unfriendly. As is France’s AMF which is a jackboot on the end of a socialist foot serving a nation which imposes 70% tax on its businesses and implemented the Tobin Tax, and as for Italy, it is a financial desert from north to south.

Eurex already handles the vast majority of contintenal European trade clearing, yet is absolutely insignificant when compared to LCH.Clearnet’s clearing volumes in London.

Deutsche Boerse is well aware of this, so realizes that the string it has in its bow is an ability to lobby the European Cental Bank to ensure Euro clearing can be moved to Germany, this ideology being partly down to an escalating war between London and the European Union over euro clearing, with the City of London currently handling over 90% of Euro clearing.

Looking at the history of the failed merger between London Stock Exchange and Deutsche Boerse, it was clear that clearing dominance was part of Frankfurt’s agenda.

FinanceFeeds has been privy to information during the course of the proposals to merge the two venues that as a result of research by the European Commission, a merger would create the world’s largest margin pool with a value of 150 billion euros, therefore could impede competition for smaller trading venues that rely on LCH.Clearnet as well as other firms that offer similar collateral settlement services.

Germany. The non-entity that wants complete power

On that basis, London Stock Exchange’s response was to make a quick attempt to sell LCH SA in order to address proactively any anti-trust concerns. LCH Group which holds the European subsidiary LCH SA is 57% owned by the London Stock Exchange, with the remainder being owned by other users of the service.

It is ironic that the concerns of Lord Myners and other senior London officials with lifelong careers in the exchange traded derivatives sector in the largest financial center in the world were ignored by Germany, and that it has taken a report by the anti-business and staunch socialist European Commission whose interests are anti-British to stifle a potentially harmful merger which would have placed the control one of London’s fine institutions in Frankfurt, which is absolutely nowhere on the world’s financial markets and electronic trading stage.

The desperation that had now come about by the end of last year had been sensed by Euronext, which was one of the key suitors for the purchase of LCH SA, for which London Stock Exchange wants £430 million, and has to sell it in order to put paid to the investigation into any potential anti-competitive nature of the proposed deal, and quite frankly to just get on with it.

In late October last year, JPMorgan Cazenove was enlisted to oversee the sale of LCH SA, and all looked set to head to market and find a suitable acquirer, with Euronext being in the lead because it contributes around half of the revenue of LCH SA in clearing business from France, Holland, Portugal and Belgium.

Euronext appeared at the time to realize its position of strength in that it is strategically and operationally the most suitable acquiring party, and the shortlist of alternatives that would buy LCH SA is dwindling, however, Euronext made it clear that it would not pay one penny for LCH SA. FinanceFeeds held the opinion at the time that this in itself represented a potential cartel in that clearing across all electronic trading via these two entities will become intertwined.

Therefore, even if that deal had gone ahead and was not a cash transaction, it would not matter if LCH SA was given to Euronext for free, as it would remove the one obstacle that is in the way of London Stock Exchange and Deutsche Boerse creating a massive margin pool whilst their perceived moves toward lobbying the FCA to restrict the core business activities of OTC participants makes for an effortless sweep in which the entire business can be moved to their books.

Deutsche Boerse has had OTC FX in its sights for some time, one example being the acquisition by Deutsche Boerse in July 2015 of FX trading platform 360T for $796 million.

Further examples of this have been demonstrated, some dating back several years. Back in 2011, Deutsche Boerse took a minority stake in British FX technology solutions provider Digital Vega which was a technology vendor to buyside and sellside firms in the OTC derivatives sector.

At that time, the idea was to increase Deutsche Boerse’s positioning in the provision of pre-trade price transparency in the derivatives area for institutional investors and taking an initial footprint in the FX derivatives space. An investment agreement was signed in February this year, whereby Deutsche Börse would pay a US dollar amount in the single digit million range.

Thus, this interest is quite clearly part of the overall strategy, and with the sale of LCH SA to one Euronext which serves the purpose of removing the EU concerns about monopolies, yet serves to empower the listed derivatives industry just as much as if it was retained, the strategy is laid out for the year ahead.

Several politicians in the state of Hesse, where Deutsche Boerse is based, have continually refused to accept anything other than moving the headquarters of what would have been a newly merged entity to Frankfurt, and Thomas Schaefer, finance minister in Hesse, recently said it was “crystal clear” after the UK Brexit vote that this HQ should be in Frankfurt.

A less than credible venue would be one located in Frankfurt rather than Paternoster Square, in terms of infrastructure, participation in institutional financial markets globally, and in terms of talent and alignment with key venues in Asia and North America. Quite simply, central Europe is a backwater by comparison, and hampered by bureaucracy, debt and lack of dynamism.

Baron Paul Myners CBE, who served as Financial Services Secretary to the Treasury between October 2008 and May 2010 under the Labor government of the time and has several senior executive positions behind him which were within large institutions including NatWest and RBS, as well as Lord Rothschild’s RIT Capital Partners where he serves as a board member since August 2010, has a vested interest in the merger, as he was appointed Chair of Governors at the London Stock Exchange in 2014.

In particular, Lord Myners, along with senior regulators in London, had concerns all throughout the negotiation process relating to how clearing operations could have been expanded across both exchanges.

According to laws in America and Europe, notably the Dodd-Frank Wall Street Reform Act and the EMIR (European Market Infrastructure Regulation), exchange-traded swap contracts must be cleared through specific electronic clearing houses, a process which engenders greater transparency and in the case of London Stock Exchange, its own subsidiary LCH.Clearnet is used for this purpose.

Undercaptalization

The case in point here is that nowadays, with large banks better capitalized, transactions are now being passed to institutions with very little capital at all therefore if large trades went wrong, there could be massive exposure, and as a result, a question mark hung over the corporate governance of a new entity consisting of the London Stock Exchange and Deutsche Boerse with its head offices in two separate countries, which would have led to a shirking of responsibilities by British and European regulators, or a degree of buck-passing. Counterparty risk is, after all, a very important subject post SNB EURCHF peg removal.

The whole idea of such a merger was preposterous. FinanceFeeds said from the very beginning that it would never happen.

In 2017, the at-the-time Chairman of the Treasury Select Committee in Britain, Andrew Tyrie, had been on the fence for some time regarding the potential British exit from the European Union, however he has been vocal regarding the standardized EU regulations across all industry sectors, stating that there is absolutely no reason to fear a standard EU ruling on all industry matters.

Indeed, Mr. Tyrie’s perspective on this matter was evident within this subject, as he did not fear the potential difficulties which could arise from a merger between Britain and Germany’s flagship traditional exchanges, as it would appear to be manageable via standardized regulation.

However, if something does go awry and hand-wringing occurs between German and British regulators, then the effect on the Square Mile could be potentially vast. On this basis, politics should be left aside in favor of business acumen and suitability for purpose.

Seasoned London-based critics including prominent City journalist Alex Brummer, author of several books including “The Crunch” which looked closely at the reasons behind the 2008 credit crisis, have regaled indications from regulators that the sentiment within the offices of the authorities is that the merger proposals between London Stock Exchange and Deutsche Boerse have taken place over ‘cosy tea parties.’

London Stock Exchange acquired Borsa Italiana in 2007, during which time FinanceFeeds CEO Andrew Saks, at the time a consultant systems engineer to financial institutions, spoke to then incumbent London Stock Exchange CFO Jonathan Howell at the London Stock Exchange’s then-new Paternoster Square headquarters.

At that time, Mr. Howell explained that, whilst time consuming, the acquisition was indeed that – a pure acquisition in which London Stock Exchange would become the owner of the Italian stock exchange, making its corporate decisions from London, a far easier way to manage a large entity, however with the uncertainty of future cross-border regulation in the advent of the Brexit, and an ‘equal’ merger between a British and German exchange, governance may well be somewhat different.

economist and Brexit advocate Gerard Lyons, who has advised Boris Johnson, said: “I think the deal will be received well economically and politically, and has already been received well by financial markets.”

Mr Lyons forecasts the economy will grow 8 per cent next year and rise ‘above pre-Covid levels’ in early 2022. He pointed out there will still be ‘details’ in the deal that need scrutinising and noted it ‘doesn’t cover financial markets’.

He is dreaming. Boris Johnson will not stop locking the country down, and is proving to be the leader of the most socialist government the UK has ever had. The damage he has inflicted on the UK’s economy has amounted to over $400 billion in just nine months and he is continuing to inflict draconian and totalitarian closedowns on the entire population in unison with his European collaborators Mr Macron and Ms Merkel.

It became clear in March this year that Mr Johnson’s puppet masters are in the Chinese Communist Party, and that he, along with Mssrs Macron and Merkel, are in it together hence there would clearly never be a proper Brexit.

This morning’s opinion among some of the City of London’s executives that the financial sector has been omitted from any potential deal are perhaps a boon considering what a deal would saddle them with, and given that the last thing London needs is the European Parliament working against it when it is the center for the world’s financial services and handles over 70% of all financial markets activity on the European side of the Atlantic.

Surely London will be self-determining regardless of what some blazer-clad bureaucrats on the civil service payroll in Brussels or the man with the scruffy hair on home soil dictate?

Mr Lyons said that this deal has ‘relieved a degree of uncertainty’ and should be ‘a positive for the UK and provide a good future relationship with the EU’, which will bring a boost to the economy alongside astute policy making.

Crispin Odey, a Brexiteer and hedge fund manager whose company has had a longstanding investment relationship with Plus500 as a major shareholder said: ‘Finally we have forced Europe to treat us as a sovereign country. They didn’t want to do that and it appears as though we have got as close as you can get to a free trade deal – a proper accord.

“Obviously, there’s going to be a hell of a lot of paperwork involved in trading with Europe… But equally, technology is coming along all the time, so these things can be worked out.’ He said the ‘big elephant in the room’ is services and the City of London” said Mr Odey.

The tertiary services sector contributes around 80% of UK GDP and is not covered by the deal. The financial services industry is particularly important and London is the world’s second most important financial centre.

Mr Odey said that the Covid-19 locdowns are now ‘the real problem’ for the economy. He is absolutely right.

Freedom from Europe with a proper, no-deal Brexit would have allowed a new government enter UK parliament and end all of this tyranny without the EU ordering it to continue.

Nigel Terrington, chief executive of financial services provider Paragon Bank, said: ‘A pragmatic trade agreement is good and should help rebuild confidence, but they need to turn their urgent attention to financial services, given its significance to the UK economy.’

Veteran fund manager Richard Buxton, of Jupiter Asset Management, said: ‘The sad fact for the City – aka financial services across the country – is that it’s long been clear the Government wasn’t going to fight to secure a longstanding deal.’

‘So we have all put in place arrangements, with offices in Europe, to try to carry on serving European clients as best we can.

Lord Rose, chairman of Ocado and former head of the Remain campaign Britain Stronger in Europe in 2016, said there was a sense of ‘relief that we’ve got a deal’.

The former Marks & Spencer chairman added: ‘Congratulations to everybody because it took all sides to come to the party. I’m sure the devil is in the detail.

‘We know there will be more bureaucracy. There will be some things that we as individuals cannot do that we have been used to doing for 45 years. That might come as a bit of surprise.’

‘It’s going to be a compromise. All negotiation is a compromise. But for me, this is the lesser of two evils.’

Kevin Ellis, PwC’s UK chairman, said: ‘The narrative of the last four or so years has been about seeking certainty and, after a series of false starts, news of a deal provides that.

‘Taken alongside the positive progress on vaccinating against Covid-19, business leaders will feel they can start planning for the future.’

The voice of reason is Peter Hargreaves, co-founder of Hargreaves Lansdown, said: ‘I voted to leave the EU. Fully out. There was no way we would get a sensible deal because that would finish the EU because then every other country would want one. In my opinion, it should only ever have been a free trade area. All this political union is absolutely ridiculous.’I think over the next five years we’ll leave completely even with this deal.”

“We should remember that we are a resilient bunch. The Covid virus has caused a lot of grief in this country and laid to waste the hospitality and tourist industry. It’s been terrible for them but they will come back stronger but we have adapted to the situation and we would have done exactly the same thing had we come out of Europe. So I don’t care what this deal is, it’s a bad one.’” said Mr Hargreaves.

Looking at the full component system of the financial services industry should be enough to demonstrate that no government interference in London’s financial sector is necessary.

Any notion of a continental European assault on British domination of the Tier 1 banking sector can be well and truly put to rest.

For quite some time now, Germany’s investment banking, interbank FX trading and exchange traded derivatives moguls have wanted to obtain a stranglehold over the European markets, and in particular create large scale mergers in order to outstrip the rivals on the grounds of size and market presence.

Deutsche Bank, whose FX dealing market share has slipped from fifth to seventh globally in 2018, still holding its position within the top ten interbank FX dealers worldwide, is a prominent force in the market making structure of the global FX industry, however that particular division is headquartered in London, and not Frankfurt.

In an attempt to eclipse Canary Wharf, Deutsche Bank and Commerzbank, another of Germany’s largest financial institutions which also has a well recognized investment banking and interbank trading division, have been working on a merger which would have placed the newly formed entity in a strong position to dominate the European clearing and execution market, even if the actual trades themselves were to take place in London.

The two European giants began talks in mid 2019 after the German government, which owns a 15% in Deutsche Bank, signalled it would not object to any necessary cost cuts or job losses. The German government has pushed for the merger in an attempt to create a national banking champion after becoming concerned over the health of both banks.

The merged bank would have become the Eurozone’s second largest lender behind BNP Paribas, with around €1.9 trillion (£1.6 trillion) in assets and a market value of €25 billion, BNP Paribas being a relatively commonly favored TIer 1 prime brokerage among UK institutional FX trading firms.

As is often the case in mainland Europe, it was the trade unions that reared their recalcitrant heads this time, thwarting the merger which is now completely off the table.

Socialism reigns supreme in Europe, which is one of the reasons for the lack of modernity, lack of business infrastructure and inability to compete with Anglosphere regions on many levels.

Government ownership, unionized workforces and huge taxes on company revenues and financial transactions, along with a public misunderstanding of the financial sector and the technology that underpins it are some of the factors that have hampered progress in mainland Europe whilst Australia, the UK, North America and the Asia Pacific region have centralized the most efficient and highly advanced electronic financial ecosystem that powers the world’s economies.

In tandem with these factors, many mainland European domestic economies teeter on the brink of obscurity and require continual bail outs only to find that their lack of productivity and modernity along with the sense of entitlement that the IMF has created for them results in repeats of the same money printing exercises, thus not inspiring investment from innovators or banks.

This may conjure up images of sleepy southern European villages, Greece’s national insolvency or Portugal’s agrarian financial black hole, however Germany, a self proclaimed industrial center, has its own difficulties, one of which includes the government not willing to bail out Deutsche Bank should it go to the wall.

A merger with Commerzbank would have straightened out Deutsche Bank’s fiscal woes, however socialism and investment banking do not go together, as demonstrated by the commercial environment in its homeland, and the position taken by prime minister Angela Merkel who would allow the nation’s largest bank to collapse.

The potential tie-up between Commerzbank and Deutsche Bank faced vociferous opposition from trade unions, because 30,000 jobs came under threat and was also criticised by investors and analysts.

Deutsche Bank confirmed talks had collapsed and said the merger did not carry enough benefits to offset execution risks, restructuring costs and capital requirements needed for the deal.

The bank’s executives had discussed raising between €3bn and €10bn for the proposed merger, according to reports.

In a statement, the Deutsche Bank said: “After careful analysis, the management board of Deutsche Bank has concluded today that a combination with Commerzbank would not have created sufficient benefits to offset the additional execution risks, restructuring costs and capital requirements association with such a large-scale execution.”

Italian bank Unicredit could now be poised to strike with a rival bid and has already begun preparing a bid, according to reports.

Italy’s second-biggest bank has developed plans to buy a large stake in Commerzbank and merge it with another German institution under its ownership, HypoVereinsbank, the Financial Times first reported earlier this month. Italian prime brokerage agreement anyone? Thought not….

In the FX industry, London is the absolute powerhouse for the entire region, and indeed one of the world’s focal points for the entire financial services business. It is a gigantic producer of revenues and has a highly dedicated and skilled series of professionals who continue to strive toward moving forward, and do so in a very sophisticated manner.

Underpinning the entire combined cognitive prowess of London’s senior executives is a massive and finely honed technological infrastructure that ranges from hosting (Equinix LD4 being one of the largest electronic trading data center locations in the world) to order routing systems, liquidity management and in-house developed interbank and institutional trading systems that are supported by hundreds of developers and engineers per bank.

Europe does not have this in any shape or form, and before any dissenters seek to present Deutsche Bank as Frankfurt’s equivalent to Canary Wharf’s institutions, it is worth bearing in mind that Deutsche Bank conducts no electronic financial markets business whatsoever from Frankfurt, instead doing so from London, which is at odds with the all-controlling political stance of the socialist government of its host nation, obviously because business efficiency is more important than post-war socialist-progressive nationalist aspirations.

Sensationalist warblings that adorned the tabloids last year such as “Deutsche Bank is shifting business out of London hinting at troubling post-Brexit future for $1 trillion industry” are all very well, except for one very important factor: this is quite simply not true.

What Deutsche Bank had actually been planning was to move approximately 50% of its Euro clearing business to the firm’s global head offices in Frankfurt, which is necessary to comply with European regulations. Currently, Britain is a member of the European Union, hence consolidating all of the Euro clearing business in London is compliant, however once the United Kingdom makes its exit, there will have to be a contingent in Frankfurt.

This does NOT by any means signal a shift of business from London at all. Indeed, Deutsche Bank, along with all of the Tier 1 banks, British, Swiss, American or German in origin, will remain in London in their existing form as long as London remains the world’s dominant financial markets center, which will be pretty much as long as the financial services industry exists, ie: forever.

The acceptance of English law and widespread use of English language has made London a hub for clearing globally. London handles more than 70% of the daily euro clearing business, equivalent to around €930 billion (£792 billion, $995 billion) of trades per day. One just has to look at the records and reports from LCH.Clearnet to understand this magnitude.

Deutsche Bank has shifted some of its euro clearing volumes from London-based LCH, which is owned by the London Stock Exchange, to Deutsche Börse subsidiary Eurex, however this is by no means an operational removal of any components of Deutsche Bank’s commercial structure to Europe. No bank in the world will do that.

Eurex, which is a Frankfurt-based clearing house owned by Deutsche Boerse, revealed its program to award its largest customers a share of its revenues in late 2018, which has been construed by the pro-Europe mainstream publications in London as an attempt to incentivize large institutions to conduct their clearing in mainland Europe rather than in London and can be considered a lobbying attempt, and a futile one at that.

In October 2018, Eurex Clearing said that its 10 most active participants will be eligible for a “significant share” of the returns from its multi-currency interest rate swap offering, as well as being offered seats on its board.

Deutsche Boerse at the time boldly claimed that Bank of America Merrill Lynch, Citigroup, Commerzbank, Deutsche Bank, JP Morgan and Morgan Stanley have all signed up to the program, adding to the existing 200 clients which Deutsche Boerse claims Eurex currently has on board. Since then only a small percentage of clearing has taken place in Europe compared to existing business in London (probably to maintain compliance with having Euro clearing in Europe to a certain extent of the entire global business).

One short sighted opinion from across the Channel is the supposition that the European Union’s hopes of bringing London’s financial markets sector to the mainland is as easy as taking business from London to Europe.

It is not that simple, as it would be impinged by approximately 8,000 miles of fiber optic cables which emerge from the seas around the UK at locations such as Crooklets Beach and Sennen Cove in Cornwall, and Highbridge in Somerset.

These cables carry data not only across the UK but to its continental neighbors, and whilst the European Central Bank is correct in suggesting that the majority of Europe’s critical infrastructure for trading FX, as well as shares and derivatives, is clustered in a 30-mile radius around the City of London, and that regardless of the UK’s future, some of the industry’s biggest data center operators, which host banks and high-frequency traders’ IT equipment, have announced capacity increases this year to cope with rising demand from investors in both Asia and the US, the real reason is not just infrastructural, it is really around why that level of infrastructure exists only in Britain and not elsewhere in Europe.

Britain’s interbank sector is responsible for 49% of all global FX order flow at Tier 1 level, and consists of British and international banks based in London, marking out London as a true free market, with no controls on which banks and non-bank entities (Thomson Reuters, Currenex, Hotspot all have centers in London) operate there, yet that is the de facto center for electronic trading and always will be.