UK-based financial institutions have used the past four years to develop and implement (re)location strategies, working on the assumption of a harder Brexit and lose historic passporting rights, and hence unfettered access to EU markets.
As things stand, London does indeed not have any equivalence agreements in place with the EU. This explains why we have seen the €7bn increase in daily derivatives trade flows through Amsterdam, as London can no longer service these trades.
Despite the UK being compliant with European Market Infrastructure Regulation (EMIR), the EU mandated that EU transactions must move to EU entities.
Whilst those transaction volumes have gravitated to Amsterdam, it should be noted that these primarily relate to UK-owned entities, so they do not necessarily represent a repatriation of revenue from London, according to Tej Patel, partner and regulatory practice Lead at management and technology consultant Capco in London.
Patel told City A.M. this evening that “Amsterdam’s attractiveness is also underpinned by its regulatory landscape being the most similar to the UK, demonstrating a preference to continue trading in an environment as approximate to London as possible.”
New York: still standing tall
The existence of a ‘mutual recognition of derivatives trading venues’ agreement between the US and the EU explains why New York has become the default hub for EU derivative trading. New York is seen as a more established financial hub than any EU location, Tej said, explaining this is due to its concentration of talent, technology and infrastructure.
“It follows that EU financial hubs have significant work to do if they are to catch-up and exploit any post-Brexit relocation of trading,” he added.
Patel called it “not exactly a ‘win’ for the EU” that financial institutions have historically favoured better established hubs such as New York, and formerly London, despite the existence of more geographically, and time zone, proximate local hubs.
He is convinced that the trajectory of political relations between the UK and the new Biden administration will be key in the coming months. “Ultimately, there needs to be global consensus on equivalence,” he said.
However, if the US aligns with the EU stance in respect of the UK, and also Switzerland, it could put USD swap clearing at LCH at risk.
Tej states that on the face of it, recent event could be viewed as “just the first phase” in a longer-term shift of trading and other financial services activity away from London, and a steady decrease of the City’s status as a major trading hub.
“So it is critical that the UK acts quickly to restore equivalence provisions,” he said.
On the other hand, “the stickiness of CCP clearing should not be discounted, or that the US has deemed London to be the venue of choice for OTC clearing,” Patel noted.
“Given the nature of pooling of liquidity, margining and collateral, the costs to move USD swaps, where volumes are 50 per cent larger than EU swaps, which themselves only account for 25 per cent of all cleared OTC trades, out of London would be substantially higher,” he continued.
Given the diverse range of factors shaping the current derivatives market, and the speed at which the described shifts in trading have occurred since the UK officially left the EU at the start of the year, Patel concluded that he expects to see the situation continue to evolve throughout 2021.