Financial Collateral

Financial collateral means cash (money in bank accounts), securities (both debt and equity) and credit claims (sums owed to banks). Cash and securities are the principal forms of collateral used in the financial markets, while credit claims are an important class of collateral for certain specialised market operations. Legal certainty as to the effectiveness of financial collateral arrangements is critical to the stability, integrity and efficiency of the financial markets.

The Financial Collateral Directive was adopted in 2002 for the purpose of modernising national legal frameworks for financial collateral, by removing a variety of obstacles to efficient creation and enforcement of financial collateral arrangements that then existed, to a greater or lesser extent, under the national law of each member state of the European Union. Those obstacles included cumbersome, impractical or costly formal requirements for creation, perfection or enforcement of financial collateral and material legal uncertainty regarding the enforceability of such arrangements created by various insolvency rules. These difficulties principally arose due to the application of personal property security rules developed historically for tangible personal property to intangible personal property such as intermediated securities and financial receivables.

The Directive was also intended to introduce a level playing field across Europe for the taking of financial collateral by setting out common rules for creation and enforcement of financial collateral and a clear legal basis for common practices such as re-use of financial collateral by collateral takers and appropriation of financial collateral by collateral takers as an alternative to enforcement by sale.

The Directive was implemented in the UK by the Financial Collateral Arrangements (No 2) Regulations 2003. Some aspects of the scope and operation of the Regulations have been the subject of considerable debate, which continues notwithstanding some judicial consideration of certain aspects of the Directive.

This group is considering the relationship between the special regime for financial collateral created by the Directive and the Regulations and whether and, if so, how that regime may be made conceptually and practically coherent with a broader modernised regime for personal property security in a manner that is consistent with European law.

The group will consider various issues which have arisen in practice, for example, under different forms of securities custody arrangement and in light of modern collateral management practices, including the use of professional collateral management service providers. The group will also consider particular issues arising the market for securities financing transactions, including securities repurchase (repo), securities lending and margin lending arrangements. The group will also consider the impact of increased use of central clearing counterparties, particularly for derivatives, and increased regulatory requirements for financial collateral, for example, under the final policy framework agreed by the Basel Committee on Banking Supervision (BCBS) and the International Organization for Securities Commissions (IOSCO) in September 2013 for margin requirements for non‑centrally cleared derivatives. Finally, the group will consider the impact of the implementation in the UK of the Bank Recovery and Resolution Directive on financial collateral arrangements.