06/06/ Impacts de la directive BRRD (Redressement et Résolution des Etablissements de Crédit) 1 Copyright 2016 Kramer Levin Naftalis & Frankel LLP – 47 avenue Hoche – Paris T: +33 (0) – F: +33 (0) – Securities Financing Transactions Regulation (SFTR) 6 june 2016 Gilles Kolifrath, Associé, Kramer Levin

About SFTR

06/05/ Securities Financing Transactions Regulation (SFTR) 33 About SFTR  The Regulation on Transparency of Securities Financing Transactions and of Reuse (2015/2365) (the SFTR) is a key part of the EU's initiative to reform shadow banking following the financial crisis. Its aim is to improve transparency of the securities financing markets. Its purpose is also to enhance transparency on the market of securities financing transactions (i.e. mainly securities lending and borrowing and repurchase agreements) and of the reuse of financial instruments provided as collateral by counterparties  The objective is not only to enable regulators and supervisors to monitor the build-up and spread of risks linked to these transactions, but also to improve information for investors  The proposal for the SFTR was announced as part of the action plan on shadow banking in September Political agreement was reached between the Parliament and Council on 17 June 2015, and the European Parliament Economic and Monetary Affairs Committee (ECON) voted on the text on 16 July 2015  The SFTR was adopted in November 2015 and published in the Official Journal of the European Union on 23 December It entered into force on 12 January 2016  However, a combination of staggered effective dates and the need to wait for Level 2 measures means that most of its requirements will become effective after 13 July 2016

06/05/ Securities Financing Transactions Regulation (SFTR) 44 About Securities Financing Transactions (SFTs)  SFTs include a variety of secured transactions that have similar economic effects such as lending or borrowing securities and commodities, repurchase (repo) or reverse repurchase transactions (reverse repo) and buy-sell back or sell-buy back transactions, including collateral and liquidity swaps. The main SFTs are securities lending and repos  Securities lending is primarily driven by market demand for specific securities and is used, for instance, for short selling or settlement purposes. In this type of transaction, the lending counterparty lends securities for a fee against a guarantee in the form of financial instruments or cash given by their clients or counterparties  Repos/reverse repos are generally motivated by the need to borrow or lend cash in a secure way. This practice consists of selling/buying financial instruments against cash, while agreeing in advance to buy/sell back the financial instruments at a predetermined price on a specific future date

06/05/ Securities Financing Transactions Regulation (SFTR) 55 About shadow banking  Shadow banking can be defined as a system of credit intermediation that involves entities and activities outside the regular banking system  Shadow banks are not regulated like banks, though their operations are often like those of banks, as they :  Take in funds similar to deposits ;  Lend over long periods and take in deposits that are available immediately (known as maturity and/or liquidity transformation) ;  Take on the risk of the borrower not being able to repay ; and  Use borrowed money, directly or indirectly, to buy other assets  They may include entities such as securitisation vehicles or conduits, money market funds, investment funds that provide credit or are leveraged, such as certain hedge funds or private equity funds and financial entities that provide credit or credit guarantees, which are not regulated like banks or certain insurance or reinsurance undertakings that issue or guarantee credit products  Shadow banking also includes activities, in particular securitisation, securities lending and repurchase transactions, which constitute an important source of finance for financial entities  Shadow banking activities can be helpful since they ensure diversification of financing sources for the economy but needs to be subject to appropriate regulation and transparency requirements

Scope of the SFTR

06/05/ Securities Financing Transactions Regulation (SFTR) 77 Counterparties covered  The SFTR apply to "counterparties“, which are defined by Article 3(2) to include both "financial counterparties" and "non-financial counterparties". The definition of "financial counterparty" in Article 3(3) of the SFTR originates from Article 2(1) of EMIR and covers :  investment firms authorised in accordance with MiFID 2 ;  credit institutions authorised in accordance with CRD 4 ;  insurers and reinsurers authorised in accordance with Solvency 2 ;  central counterparties (CCPs) authorised in accordance with EMIR ;  central securities depositories authorised in accordance with the CSDR ;  UCITS and their management companies authorised under the UCITS Consolidation Directive ;  AIFs managed by AIF managers authorised under the AIFMD ;  occupational pensions institutions (IORPs) authorised under the IORP Directive; and  third-country (i.e. non-EU) entities which would require authorisation or registration under any of these pieces of legislation if established in the EU  Non-financial counterparties are undertakings "established" in the EU other than financial counterparties. An undertaking is considered to be "established" in the EU where the counterparty has its head office (if a natural person) or registered office (if a legal person) in the EU  Unlike under EMIR, which provides an exemption from mandatory clearing (although not reporting) for non-financial counterparties below certain thresholds, the SFTR does not have a lighter regime for non- financial counterparties with smaller books of SFTs

06/05/ Securities Financing Transactions Regulation (SFTR) 88 Territorial scope  A counterparty will be caught by the SFTR if:  with respect to Reporting and Record Keeping, it is a counterparty to an SFT and is established either in: the EU (including any branch, regardless of where the branch is); or a third country and the SFT is concluded in the course of operations of its EU branch; and  with regard to Reuse of Collateral, it is a collateral taker and is established either in: the EU (again, including all branches, anywhere); or a third country if either : the reuse is effected in the course of operations of its EU branch; or the reuse concerns financial instruments provided under a collateral arrangement with a counterparty established in the EU or an EU branch of a counterparty established in a third country

06/05/ Securities Financing Transactions Regulation (SFTR) 99 Transactions covered /1  For the purpose of Reporting and Record Keeping, the definition of SFT covers the following types of transactions :  securities or commodities lending and securities or commodities borrowing (e.g. transactions under GMSLA and loans of gold or other precious metals) ;  buy/sell-back transactions or sell/buy-back transactions relating to securities or commodities (i.e. sell/buy- backs of securities that are documented as two separate transactions – in order to benefit from true sale analysis, or otherwise – certain types inventory finance/monetisation structures relating to commodities) ;  repurchase transactions relating to securities or commodities (e.g. transactions under GMRA); and  margin lending transactions, defined as transactions in which a counterparty extends credit in connection with the purchase, sale, carrying or trading of securities, but not including other loans that are secured by collateral in the form of securities (this would include prime brokerage agreements where a broker extends credit to the client against the client's securities portfolio with that broker)  The definition is wide enough to encompass collateral swaps, namely the lending of liquid assets (such as highly rated government bonds) in return for the receipt of less liquid collateral combined with the payment of a fee. Depending on how such transactions are structured, they could be characterised as derivatives. However, Recital 7 of the SFTR is clear in excluding from its scope "derivative" transactions as these are defined in EMIR  The SFTR also covers TRS transactions (which are derivatives under EMIR)

06/05/ Securities Financing Transactions Regulation (SFTR) 10 Transactions covered /2  The SFTR's requirements around Reuse apply to "collateral arrangements" defined as :  title transfer financial collateral arrangements as defined in the Directive on Financial Collateral Arrangements (2002/47/EC) (FCD) between counterparties to secure any obligation; and  security financial collateral arrangements as defined in the FCD between counterparties to secure any obligation  The definition of "collateral arrangement" overlaps with the definition of SFT where – as is the case under a repo under GMRA – the provision of securities as collateral is part of the SFT transaction  However, "collateral arrangement" is broad enough to cover collateral in the form of securities that is not provided in connection with SFTs, such as "eligible credit support" provided under a credit support annex to an ISDA Master Agreement documenting derivatives transactions

SFTR requirements

06/05/ Securities Financing Transactions Regulation (SFTR) 12 Reporting obligation and safeguarding (article 4)  The Reporting obligation consists of reporting, not later than one working day after the SFT has been entered into, modified or terminated, the salient information about such SFT, to a TR established in the EU and registered with ESMA, a third-country TR recognised by ESMA or, where a TR is not available, directly to ESMA  The information to be reported will be specified in regulatory technical standards (RTS) that ESMA must submit to the Commission for approval by January 2017 Transaction reports will have to include the following information as a minimum :  parties to the SFT  principal amount  currency  assets used as collateral and their type, quality and value  method used to provide collateral  wether collateral is available for reuse and, if so, whether it has been reused  any substitution of collateral  repurchase rate  lending fee or margin lending rate  any haircuts  value date  maturity date  first callable date  market segment  where applicable, details of cash collateral reinvestment and securities or commodities being lent or borrowed.

06/05/ Securities Financing Transactions Regulation (SFTR) 13 Transparency requirement (articles 13 and 14) /1  The SFTR impose disclosure requirements on managers of UCITS and AIFs with respect to SFTs and total return swaps (TRS). The rationale for the increased transparency is because it is perceived by policymakers that SFTs and TRS increase the risk profile of the fund but that this risk may not be fully disclosed to investors  The SFTR will require managers of UCITS and managers of AIFs (AIFMs) that are authorised in the EU to make detailed disclosure of their funds use of SFTs and TRS through :  Periodic reports : disclosure of the information set out in Section A of the Annex to the SFTR in the six monthly and annual reports required under the UCITS Directive or the annual report required under the AIFMD  Pre-contract disclosure : disclosure of the information set out in Section B of the Annex to the SFTR in the prospectus required under the UCITS Directive or the pre-contractual documents required under the AIFMD  Sections A and B of the Annex to the SFTR requires disclosure of extensive information. UCITS managers and AIFMs will have to prepare early in order to retain sufficient information to be able to comply with the transparency requirements once they take effect  For some funds there will be a transitional period as a pre-contract disclosure requirements will apply 18 months after the SFTR comes into force. This period will apply to funds which are constituted before the SFTR comes into force. Funds constituted after the SFTR comes into force will have to comply with the pre-contract disclosure requirements immediately  There is, however, a 12- month grace period before the periodic disclosure requirements apply

06/05/ Securities Financing Transactions Regulation (SFTR) 14 Transparency of reuse (article 15)  The requirements on reuse of collateral will apply to the reuse of securities and other financial instruments provided as collateral under all security and title transfer collateral arrangements. However, they will not apply to the reuse of cash collateral  The SFTR impose conditions on the right to reuse financial instruments provided as collateral. All counterparties will have the right to reuse financial instruments received as collateral under a security or title transfer collateral arrangement only if the following conditions are satisfied :  Duly informed in writing: The providing counterparty must be duly informed in writing by the receiving counterparty of the 'risks and consequences' that may be involved in giving consent to a right of reuse under a security collateral arrangement or concluding a title transfer collateral arrangement  Express consent: The providing counterparty must have 'granted its prior express consent, as evidenced by a signature in writing or in a legally equivalent manner to a security collateral arrangement which provides a right of use' or must have 'expressly agreed' to provide collateral by way of a title transfer collateral arrangement  The SFTR then stipulates additional conditions which will apply to the exercise of any right of reuse :  Reuse in accordance with terms: Reuse must be undertaken in accordance with the terms of the collateral arrangement  Transfer from account: The financial instruments received under a collateral arrangement must be transferred from the account of the providing counterparty, although there is also provision for reuse to be evidenced by 'other appropriate means' if third country counterparties are involved in the transaction and are subject to the laws of the third country

Sanctions to the SFTR requirements

06/05/ Securities Financing Transactions Regulation (SFTR) 16 Consequences of breaches  The SFTR is an EU Regulation. As such its provisions have the force of law in EU Member States. It requires Member States to introduce effective, proportionate and dissuasive administrative sanctions and other measures, at least for the infringement of the reuse and trade reporting requirements. Such procedures will mandate that counterparties to an SFT put in place appropriate internal procedures for their employees to report such actual and potential infringements  For breaches of Article 4 or 15, the competent authorities will have the power to apply administrative sanctions as included in Article 22(4)(a) to (h) of the SFTR. The SFTR specifies a minimum set of sanctions and penalties, including fines of up to at least 10% of turnover for legal persons, withdrawal or suspension of authorisation and temporary bans against persons with managerial responsibilities  Member States must notify the Commission and ESMA of the rules they put in place for criminal and administrative sanctions

ESMA RTS

06/05/ Securities Financing Transactions Regulation (SFTR) 18 ESMA mandate  Under SFTR, ESMA is mandated to draft regulatory technical standards and implementing technical standards regarding the registration of TRs for the purposes of reporting of SFTs  ESMA has also been charged to report on impact of SFTs on leverage and pro-cyclicality not addressed by the Regulation and possible measures to address this  In 2019, ESMA will publish first annual report on aggregate SFT volumes by counterparty type and transaction, based on data reported to trade repositories (date not specified in Level 1 text)  In 2020, ESMA must draft a report on efficiency of reporting obligation, taking into account the appropriateness of single-sided reporting (and every three years thereafter or earlier if material developments)  ESMA has issued on march 2016 a Discussion Paper on rules under the Securities Financing Transaction Regulation (SFTR). In May 2013, the responses on the Discussion Paper have been published, ESMA will use the responses to its Discussion Paper to develop detailed rules on which it will publish a follow-up consultation in the second half of 2016, as it shall send its draft rules for approval to the European Commission by 13 January 2017

06/05/ Securities Financing Transactions Regulation (SFTR) 19 Copyright 2016 Kramer Levin Naftalis & Frankel LLP – 47 avenue Hoche – Paris T: +33 (0) – F: +33 (0) – CONTACT Gilles Kolifrath Partner Kramer Levin Naftalis & Frankel LLP 47, Avenue Hoche Paris Tel +33 (0) Fax +33 (0) New York Paris Silicon Valley