The Urgency to Transition: How Brexit Affects UK-based crypto asset index providers

Commenting on the updated ESMA Brexit statement on provisions of the Benchmarks Regulation (BMR) and how it affects UK-based crypto asset index providers

Introduction

There is no place where index providers and users are as strictly regulated as in the European Union. Issuers, exchanges, and other supervised entities in the union are prohibited from using financial benchmarks from any other than EU-regulated index providers. On 31 January 2020, the United Kingdom officially became a third country in relation to the EU. The withdrawal agreement between January and December 2020 ensured continuity for a while.

Strict EU Regulations

Users of financial indexes in the EU must ensure that benchmarks used by them are provided by index providers included in the European Securities and Markets Authority’s register over benchmark administrators. UK administrators have now been deleted from the register. This has led to a situation where UK index providers must seek qualification either as a third-country administrator or re-apply and get approved with an EU vehicle in an EU country. The drawdown of seeking qualification as a third-country administrator is that the UK index provider will have to apply on a “per benchmark” basis, which may be commercially unviable. Issuers may not have the time to add months of delays to their product listing plans when faster alternatives exist.

Transitional Period: Looming Deadline

A transitional period has been introduced in the EU Benchmarks Regulation to lighten the burden for UK index providers. UK index providers could continue to provide benchmarks to EU benchmark users until the end of December 2023 if those benchmarks were provided in the EU before Brexit. UK index providers initially included in the ESMA register are now considered third-country benchmark administrators. UK benchmark administrators that received their registration or authorization after 31 December 2020 are not eligible to provide financial benchmarks to EU benchmark users.

UK Issuers and Index Providers Look to the EU

In 2020, the UK FCA banned the sale of crypto derivatives to retail customers. This includes ETFs, ETPs, ETNs, and other similar structured products with underlying crypto assets. This has led UK issuers to form EU entities and seek out regulated exchanges in the EU to list their products. This prohibition meant that UK-based index providers had to provide services outside the UK to survive. The UK FCA ban on crypto derivatives combined with Brexit has led to an unfortunate coincidence where UK index providers approved after 2020 won’t legally be able to provide crypto asset indexes in the UK or the EU after 2023.

The Road to Compliance

The combination of strict EU regulations, the FCA ban on crypto derivatives, and the uncertainty of the future regulatory landscape have placed UK crypto index providers in a precarious position. Those approved after the end of the transition period will likely need to establish a presence in the EU and re-apply to their local regulator to be included in the ESMA register. This is a lengthy process that can take up to a year and represents a considerable financial burden.

The challenges faced by UK index providers are not only impacting their own businesses but also have significant ramifications for their clients, the benchmark users. The BMR imposes strict penalties for non-compliance, and benchmark users that continue to use UK-based index providers after the December 2023 deadline could face substantial fines.

Under the EU BMR, benchmark users who fail to switch from non-compliant UK index providers to EU-regulated alternatives in a timely manner can be fined up to 10% of their global revenue. This represents a considerable financial risk for benchmark users and should serve as a wake-up call for those still relying on UK index providers for their financial benchmarks.

The Urgency to Transition

This looming threat has created a sense of urgency among benchmark users, who must now identify suitable EU-regulated index providers and transition their benchmarks accordingly. The process of switching providers is not without its challenges, as it requires thorough due diligence and may involve renegotiating contracts and adjusting internal processes. Furthermore, the need to act quickly to avoid substantial fines has only added to the pressure faced by benchmark users in this already complex situation.

In light of these high stakes, it is crucial for benchmark users to take immediate action to assess their exposure to UK index providers and formulate a plan for transitioning to EU-regulated alternatives. Failure to do so could result in crippling financial penalties and damage their reputation and standing in the financial markets.

To sum up, the post-Brexit regulatory landscape has far-reaching implications not only for UK-based crypto asset index providers but also for the benchmark users who rely on their services. With the potential for severe fines under the EU BMR, benchmark users must act quickly to mitigate their risks and ensure their ongoing compliance with these stringent regulations.