ISINs for OTC Derivatives ... Really ESMA?

Buried in the European Securities and Markets Authority’s 402-page Draft Regulatory and Implementing Technical Standards MiFID II/MiFIR just out September 28 is this little nugget on the esoteric subject of security identifiers:

“After reviewing all the existing industry initiatives for reference data, ESMA has decided to use ISINs to identify reference data, given the open source nature and the low cost of the solution as well as the flexibility and speed with which ISINs could be allocated to existing/new financial instruments.”

As most any EU operations pros, exchange or CCP officials, or derivatives trading assistants know like the backs of their hands, ISINs (International Securities Identification Numbers) are still just one of several security identifiers used in the EU and are not in use by many large EU exchanges, let alone globally. This doubling down on ISINs for global OTC derivatives would seem to serve as a metaphor for both:

  1. Regulators’ failure to learn from their own past mistakes
    In 2007 ESMA initially proposed ISINs for listed derivatives under MiFID only to punt weeks before go-live when they got the message that they were only used in about 25% of the markets … and nine months later went to a sensible underlying-and-describe symbology much like that of OPRA (Options Price Reporting Authority).
  2. Regulators’ unfamiliarity with some of the rudiments of the markets they regulate
    EU listed derivatives’ use of ISINs hasn’t changed much, and EU OTC derivatives exist in the subset of global OTC derivatives, where symbology is far more complex … SWire has never considered using something like ISINs.

Yes, it’s true that when looking at ESMA’s regulated markets there’s lots of ISINs in use by exchanges, but when multiplying the ISINs out by the listed derivatives volume on each of those exchanges, the limited liquidity of the ISIN itself becomes all too clear in comparison to the robust use of Alternative Instrument Identifiers (AII). The pragmatic decision to switch to the underlying-and-describe approach still holds today, the perfect being the enemy of the good.

Unfortunately, this isn’t the first time since the 2007 ISIN cock-up that the issue of reference data and identifiers has been derailed and significantly impacted by politics (nor will it be the last). After all, back in November 2009, the European Commission charged S&P Capital IQ with abusing its position as the sole provider of ISIN codes for U.S. securities by requiring European financial firms (in the European Economic Area) and data vendors to pay licensing fees for their use. The EC described the behavior as unfair pricing, noting that in cases such as clearing or regulatory compliance, there are no acceptable alternatives. Given this sentiment toward vendors, it is unlikely that the EC would select a vendor’s proprietary code as a global standard, even if it has been made open for use.

Symbology isn’t something that market participants game. It’s not a revenue-centric effort—S&P’s revenue from licensing CUSIPs (Committee on Uniform Securities Identification Procedures numbers) is very small change indeed compared to even a Tier-3 bank’s or broker’s revenue. Irrespective of any asset class or product, symbology is in reality one of the most mundane aspects of our capital markets.

Something like mandating ISINs for listed and OTC derivatives symbology is purely a matter of core competency—not lobbying, motivation, or trust. If local and regional regulators charged with implementing the 2009 G-20 Pittsburgh agreements can’t get this small bit right in 2015, how well do we expect them to perform on the much larger bits, let alone ongoing and fresh regulatory enforcement of “fair markets?”

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