ISLA SRD II working group panel discussion
18 August 2020
Contributors to ISLA’s SRD II taskforce unpack what the incoming update to the Shareholders Rights Directive means for securities lending and what challenges await
Image: retrorocket/shutterstock.com
Panellists
Marc Poinsignon, Product manager - securities lending & borrowing, collateral management, banking, funding & financing, Clearstream
Farrah Mahmood, Regulatory analyst, ISLA
Rickie Smith, Trading services, product manager, J.P. Morgan
Ina Budh-Raja, Director EMEA head of product & strategy, securities finance, BNY Mellon
Chris Markham-Lee, Senior managing counsel and head of
securities finance legal, EMEA, BNY Mellon
Avinash Parmar, Senior product manager
Pirum Systems
Michael Brown, Senior associate, Clifford Chance
Laura Douglas, Senior associate knowledge lawyer, Clifford Chance
How does SRD II affect the securities finance market specifically?
Farrah Mahmood: The second Shareholders Rights Directive (SRD II) is undoubtedly one of the most important regulatory changes to corporate governance in the EU in recent times, as it does not only impact Europe, but extends globally to any corporations that have their shares listed on a regulated market within the EU.
The biggest impact to the securities finance industry is the obligation on intermediaries, such as triparty agents and agent lenders, where it is now mandatory to assist and facilitate a company’s right to identify a firm’s shareholders, and facilitate the actioning of shareholders rights. This poses a huge operational burden on firms with regards to processing automated shareholder identification requests, in a standard ISO format, under specific time constraints, and whilst also managing additional volume of data and communications.
The definition of an ‘intermediary’ as defined under SRD II - ‘’a person providing services of safekeeping of shares, administration of shares or maintenance of securities accounts on behalf of shareholders or others, such as investment firms, credit institutions and central securities depositories’’, is also open for interpretation to firms within the securities finance market, which has caused much debate.
Securities lending chains can often be complex, and under a title transfer agreement, all rights are passed to the borrower, including the right to vote. It is currently arduous for issuers to identify who their underlying shareholders are, and thus, the International Securities Lending Association (ISLA) fully supports the introduction of SRD II which will certainly help to improve overall transparency.
Marc Poinsignon: Securities financing transactions are known to play a pivotal role in supporting liquidity in the capital markets. Lenders and borrowers meet their funding and financing needs while mitigating their risks by exchanging loans of securities or cash against collateral assets. Whilst different contractual agreements are used by counterparts, for securities lending, loan securities are typically transferred from the lender to the borrower under a title transfer versus collateral under either title transfer or pledge (security interest) for the duration of the transaction. Such ownership structures and the custody arrangements are relevant in the context of shareholder identification requests.
At the same time, allowing the long-term investor in the securities to access corporate action information and to exercise rights is key. Established mechanisms exist to enable the lender and the collateral giver to recall their securities ahead of events.
Triparty collateral agents and intermediaries such as Clearstream facilitate the process and the ISLA SRD II working group is doing a great job in developing best practice guidelines.
Avinash Parmar: SRD II was designed to promote and increase long-term shareholder engagement and to improve transparency between issuers and the end investors of the shares.
From a securities financing perspective, once a security has been lent, all rights are transferred to the borrower including the right to vote, this has at times been a concern among asset managers in the securities finance market as it could lead to empty voting, even though there are codes of conduct and usually legal arrangements in place to prevent this. Under SRD II the increased transparency will help give more comfort to asset managers who lend their securities with the introduction of additional disclosure and regulatory reporting measures. However, these requirements will present challenges within the securities finance market, as it will now fall on any intermediaries to assist and facilitate in identifying and notifying underlying shareholders within the timeframes imposed under the directive.
In order to protect voting rights, lenders should/will retain the right to recall and restrict any securities. Securities can be recalled and restricted from lending until voting is concluded, thereby preventing empty voting (where the borrower can potentially act in a speculative way). This approach is aligned with the Principles for Responsible Investment (PRI) and the International Corporate Governance Network’s Guidance on Securities Lending, as well as the European Fund and Asset Management Association’s (EFAMA) Stewardship Code and Principle. SRD II in Europe should add further comfort and also add to oversight requirements.
By logical extension, asset managers are likely to increase their oversight on their securities lending programmes, with decisions around lending over record dates reviewed. This is likely to create additional control measures on lending activities be they in-house or through an agent lending programme including a review of lending criteria. So, process and controls will need to be reviewed, and this will feed into the ongoing discussion of securities lending and its role under an environmental, social and governance (ESG) lens. How firms run their securities lending and collateral management programmes, particularly with regard to return and recall management and fails monitoring, will also be challenged by the upcoming Central Securities Depositories Regulation (CSDR), with mandatory buy-ins and penalties for failing transactions becoming standard. We mustn’t forget, however, that the European Securities and Markets Authority (ESMA) itself recently stated in December 2019 that “short-selling and securities lending are key for price discovery and market liquidity” and one recent high-profile case in Germany has only added weight to this statement.
Michael Brown: Although the securities finance market will feel the effect of SRD II in various circumstances, the impact on parties to a purely bilateral Global Master Securities Lending Agreement (GMSLA) structure is not dissimilar to the impact that will be felt by parties in other bilateral trading relationships or where relevant securities are held with a custodian. Additional impacts arise in the context of agent lenders (irrespective of whether they are an intermediary for the purposes of SRD II) and triparty collateral structures. Even for triparty structures, there are different concerns for parties operating security structures (e.g. for a Pledge GMSLA) and for traditional title transfer structures. In that context, it is perhaps unsurprising that ISLA has been working on template documentation in respect of triparty collateral managers and agent lenders.
ISLA’s documentation seeks to remedy the tension between SRD II’s requirements and the fact that the party with a long-term interest in the collateral is (absent a default) typically the collateral provider. As a result, the proposal is for information destined for shareholders to be passed on to the collateral provider in most circumstances, which will allow the collateral provider to determine whether it wishes to substitute the collateral and exercise the rights enjoyed by the shareholder on the record date.
Rickie Smith: One of the core objectives of SRD II is to improve the communication and interaction between issuers and long term investors, by establishing specific requirements to encourage shareholder engagement. The specific requirements impacting the securities financing market include 1) identification of shareholders; 2) transmission of information between issuers and shareholders, via intermediaries; 3) facilitation of the exercise of shareholders rights.
For each of the above requirements, SRD II imposes certain obligations on firms that fall within the SRD II definition of ‘intermediary’. This is the first challenge, given the indistinct definition of an ‘intermediary’ per SRD II, which can lead to inconsistent conclusions for firms who are performing similar functions, when concluded if they are performing the role of an ‘intermediary’. Per the regulation, in order to be an “intermediary”, the entity must be providing one of three activities to shareholders in relation to “shares”, namely: (A) safekeeping; (B) administration of shares; or (C) maintenance of securities accounts. It is therefore important that the services firms provide to their underlying clients are considered against this definition when concluding their analysis.
With regard to the shareholder identification (SI) requirements, any firm acting in the capacity as an intermediary is required to (1) respond to a SI request received from either the issuer, or another intermediary, and (2) forward on the request to the next intermediary in the chain, should their underlying client themselves identify as an intermediary.
Speaking specifically from a triparty agent perspective, the securities finance market is particularly impacted with regard to European equities exchanged as collateral under a title transfer arrangement. The triparty agent, as an intermediary, will be required by SRD II to respond to the SI requests, identifying the shareholder on its books and records based upon the legal nature of the encumbered collateral holding. Given the frequent reallocations, recalls and substitutions, although the collateral holdings are not deemed long-term assets of the collateral receiver, the collateral receiver may be identified as the ‘shareholder’ based upon the ownership of the asset at the record date of the SI request. If the collateral receiver is acting as an agent on behalf of underlying beneficial owners, they themselves may then be considered an intermediary and be required to receive SI requests and respond with the underlying beneficial owner details accordingly.
Chris Markham-Lee: In the loan leg of a lending transaction, where securities move full title transfer to the borrower, the impact of SRD II is minimal. It is a standard feature of the BNY Mellon agency lending programme, that securities may be recalled at any time if a lender intends to exercise voting rights and we engage actively with clients to effect their recall policies. The GMSLA requires the borrower to take instruction from the lender with respect to corporate events other than voting, but that does not have an impact on SRD II obligations.
The less straightforward impact of SRD II on securities lending is in relation to collateral. In that case, the lender has taken collateral as a risk management device and is not an active owner and therefore does not expect to be engaged in corporate events or voting - in fact, they would only ever access that collateral upon a borrower default. The taking of the equities collateral is not an investment decision, as such. It has therefore been a matter of significant industry debate to reconcile the commercial realities of risk management through collateralised lending with the SRD II obligations, but as an industry I believe we have found the correct solution which upholds the spirit of the directive and ensures the right of investor shareholders to receive relevant information and exercise their voting rights.
A major challenge of SRD II comes from the fact it’s a directive and therefore its terms are open to interpretation by the 27 member states. How big a challenge is this and what can be done to mitigate the problems this raises?
Parmar: With SRD II being a directive rather than a regulation, member states have some discretion on how the rules within the directive are transposed into their local laws.This certainly creates the potential for variations in the implementation of the directive. Furthermore, the directive contains certain provisions which will allow the member states to deviate in significant areas, such as the exclusion of certain transaction types. So, theoretically, each of the 27 member states can interpret and impose penalties for noncompliance that differ from the other states.
Additionally, the responsibility of identifying and notifying shareholders may also be unclear, as the definition of ‘Intermediary’ can be somewhat ambiguous within the directive. To help mitigate these potential problems, it is important for member states and participants to agree to best practices as a harmonised ‘collective’ group rather than individually. Raising awareness in working groups such as ISLA’s SRD II best practice task force aims to identify and resolve parts of the directive that are open to interpretation and form consensus amongst participants.
Smith: This is true and poses a significant challenge for the industry to apply a consistent methodology when dealing with the requirements of the directive. One such challenge is that the directive does not define the term ‘shareholder’ and has left this to each member state to define through its own transposition into national law. Additionally, SRD II does not cover important elements of the operational processes required to ensure regulatory adherence. All these challenges have contributed to the creation of which has created a fragmented model when building solutions to adhere to the SRD II requirements and put a strain on technology builds and operational processes in having to meet divergent national requirements.
To address these specific concerns, industry associations have worked cohesively in drafting best market practises to agree upon standardised operational processes and workflows.
Markham-Lee: Whilst there are natural complexities associated with the national interpretation and implementation of the directive, the securities lending industry has moved forward through the forum of the ISLA SRD II Working Group, which has considered in detail any areas of divergence and legal interpretation. I think if we regard the spirit of the directive as the investor shareholder receiving the relevant information, then that is the approach to take, although some markets seem to allow the intermediary custodian to be regarded as the shareholder. From an agency lending perspective it is clear that if we are providing custody of collateral, we are the intermediary and our lender client is the shareholder when receiving equities on a full title transfer basis.
Mahmood: As many member states are yet to transpose the directive into national law, this has caused great uncertainty for implementation efforts. For example, where there is a contrast in the definition of a ‘shareholder’ in local jurisdictions. Where there is no consistency across the EU, ISLA feel that in many cases the information provided to the issuer will not reach the original objective of the directive of full transparency, and hence we will continue to advocate for a review to create standardisation across the market.
ISLA and its members support the industry task force’s efforts to produce the recently finalised Shareholder Identification Market Standards, and will adopt many of these into our own best practices for securities lending.
In June, the European Commission’s Capital Market Union High Level Forum issued a report proposing a review of shareholders rights by the end of 2023 to address the lack of harmonisation. This will most likely lead to a public consultation in which ISLA’s SRD II working group can respond directly to securities lending specific nuances.
Poinsignon: The new requirements of SRD II aim predominantly at improving European corporate governance standards through, amongst others, increased long-term shareholder engagement and timely and transparent communication between issuers and investors. This impacts notably the whole chain of custody intermediaries who need to meet the requirements on shareholder identification, information exchange and exercise of rights.
The fact that member states may go beyond the standards and have diverging definitions or holding thresholds adds complexity which calls for an in-depth review and planning towards the implementation of agile and automated processes that manage the particularities. Since 2017, four European task forces have been tackling that issue and working on joint market standards for shareholder identification, general meetings and a golden operational record for corporate actions and general meetings, as well as ISO messaging standards.
Laura Douglas: The lack of harmonisation across member states is a particular challenge for intermediaries because the applicable law for determining who is considered the ‘shareholder’ depends on how SRD II has been implemented in the issuer’s jurisdiction, not the intermediary’s jurisdiction. Member states are also not uniformly aligned on other points, such as the optional de minimis threshold for shareholder identification and the possibility of prohibiting intermediaries charging for their services. In addition, some member states have ‘gold plated’ the SRD II requirements on intermediaries, for example, by extending their application to non-equity instruments. As a result, many intermediaries need to be ready to comply with a range of different rules for the various securities that they provide services in respect of.
The High Level Forum on Capital Markets Union recognised the challenges posed by this lack of harmonisation in its final report published in June and recommended that the commission should therefore introduce an EU-wide definition of ‘shareholder’ for this purpose and further harmonise the rules on shareholder identification and exercise of shareholder rights. However, the report envisages that these changes should be agreed by 2024 and so unfortunately they will not assist intermediaries seeking to comply with the current SRD II requirements.
The letter requesting a delay to SRD II was signed by 11 trade bodies. Does this mean that a broad spectrum of the market is struggling to meet the September deadline?
Douglas: The fact that the letter requesting a delay was signed by 11 trade bodies from across the financial markets underlines how many different business areas and documentation sets are impacted by these requirements. In addition to the challenges posed by the COVID-19 pandemic, a key concern highlighted in that letter was that various member states had still not finalised their national implementation of the SRD II intermediaries requirements, giving very little time for intermediaries to take into account all the different member state approaches to implementation ahead of the September deadline. Most member states have now finalised their implementation of SRD II intermediaries requirements, alleviating this concern to some extent, but the short timeframe between finalisation of some of these requirements and the implementation date remains a challenge.
Poinsignon: A broad range of market participants are impacted including EU issuers, intermediaries, institutional investors, proxy advisors and more. Firms that have struggled to analyse how it impacts their activities and implement changes have had to play catch-up with very little time remaining.
Markham-Lee: Initially the delay was requested due to the immediate issues raised by COVID-19, causing resources to be stretched across the market, at the same time as other significant EU regulation was coming into force – namely the Securities Financing Transactions Regulation (SFTR). However, despite the working from home environment, there hasn’t been any compromise in meeting regulatory deadlines.
A lot of work has gone into the ISLA SRD II Working Group discussions and as a result, the industry is preparing to meet the required deadline. I have also been heartened by the focus from ISLA, Clifford Chance and industry participants to give this directive the real attention it deserves in the required timeframe.
Mahmood: As so many firms will be impacted by this directive in September, it has certainly not gone unnoticed as to the vast impact of SRD II to the securities finance industry and the wider market.
In terms of the sheer volume of data processing as per the requirements of article three, firms will require additional resources and technology builds which have been somewhat constrained heavily by the COVID-19 pandemic. The directive is also open to interpretation, and therefore eleven trade bodies felt it necessary to request a delay, highlighting the weighty impact to various firms.
Smith: Despite market participants making every effort to prepare for the implementation of SRD II, it is unlikely that the objectives will be fully achieved. The main concerns highlighted from the market are the divergent national transpositions of SRD II having a practical effect of requiring different operational processes in order to comply. This coupled with the legal risk arising from the uncertainty of requirements within certain EU countries (i.e. definition of shareholder) is a concern and also proving difficult for market readiness.
Parmar: With several regulatory legislative measures such as SFTR coming into play during 2020 and the widespread disruption caused by COVID 19, many member states and market participants have voiced concerns about their ability to meet the 3 September deadline, which is reflected in the significant number of trade bodies lobbying for a delay in the implementation timeframe. As we have seen with delays to Uncleared Margin Rules (UMR) and CSDR, the industry would welcome a reasonable delay, given unanticipated challenges of 2020.
How much of an issue is that the delay request was rejected?
Mahmood: The eleven associations that signed the letter requesting a delay (including ISLA), have established the necessary best practice requirements for the go live in September, and we will continue to advocate on this topic in the future.
Smith: There is no doubt that the delay would have allowed for more time to work through and address some of the specific concerns and issues with the regulation, however the industry has to now fully focus on being ready to comply by 3 September.
Poinsignon: Impacted firms have limited room to enhance and finalise their solutions prior to the deadline which may entail that greater process and messaging efficiency may still be achieved afterwards.
SRD II will challenge custodians to communicate much more rapidly and effectively with their underlying clients than they currently are. What are the hurdles in achieving this?
Markham-Lee: As a custodian and agent lender, BNY Mellon prioritises engagement and communication with clients in all areas of the investment lifecycle. The ability to provide the required information to clients has always formed part of a good custody service offering, appreciating that different clients require differing levels of service on proxy voting, in particular.
One area of uncertainty which arose in the interpretation of the directive is the ability of a client to ‘opt out’ from receipt of information required by the directive. However, in assessing the spirit of the directive, there is general industry consensus through the ISLA SRD II Working Group that there should not be an opt out, but that instead all clients should be set up for proxy voting services and should receive corporate information, though they may choose to delegate such receipt to another party.
Brown: In practice the challenges are both operational and legal. Systems need to be in place to ensure that all intermediaries can react in the required timeframe and this requires both operational readiness and contractual agreement between all relevant parties. As custody chains increase in length this can put greater strain on the operational requirements.
The operational hurdles are greater where a service provider would not traditionally provide a full range of custody services but which would be caught by the definition of intermediary in SRD II. Equally, more complex legal questions arise if there is a conflict between SRD II and the laws of a jurisdiction outside the EU, for example laws relating to banking secrecy or confidentiality requirements. Such conflicts are not unique to SRD II and memorably arose in respect of transaction reporting requirements but it will take time and careful analysis for a solution to emerge.
Poinsignon: To support the key objectives of the directive, intermediaries along the custody chain have had to assess operational impacts to meet the requirements and tight processing deadlines (generally one business day) while catering for different national law requirements. The level of transmissions and communications is expected to increase and one challenge from an industry standpoint has been to increase straight-through processing. In turn, this has paved the way for a greater adoption of the ISO 20022 messaging standard. Clearstream, as an intermediary in the holding chain, is supporting its customers’ globally to mitigate the impact and be compliant.
Parmar: The ability to identify, transmit information and facilitate the exercise of shareholders rights under the directive presents many challenges, particularly with the reliance on intermediaries to cooperate in the timely identification of shareholders and facilitating the exercising of their rights.
Custodians will need to have sophisticated machine readable (ISO format) methods of communication to disseminate meeting and agenda details to their clients, capture voting preferences, instructions, receipts and confirmation statuses if they are to adhere to the timeframes imposed under the directive.
The need for improved technology to standardise and automate the processing of meetings, proxy voting and shareholder identification is a challenge that both custodians and intermediaries must consider as part of their obligations under the directive.
Technology will play an instrumental role in the ability to identify and transmit data to shareholders and new technologies such as distributed ledgers could be leveraged and potentially assist in the directive’s transparency requirements however more analysis is likely required. Therefore, custodians and their clients will need to embrace the changes that this will drive and look at replacing legacy technology in order to deal with these changes.
Smith: Custodians play a vital role in the financial system providing investors access to entitlements in securities issued by companies and services necessary to give effect to investors’ rights in these securities. Having an automated workflow process is paramount in ensuring that custodians (including us as triparty agent) can quickly facilitate requests between issuer and shareholder. There are a few third party vendor solutions that have carried out extensive development work in order to offer an outsourced solution, improving the speed in which information can flow through the intermediary chain.
The main hurdles that still exist are a result of the inconsistencies across numerous EU member states transpositions, which have created a divergent operational process in order to comply and will, in the absence of a EU standardised approach, continue to cause issues.
How much do these difficulties come from the requirements of SRD II itself and how much of it is related to the fact SRD II comes into effect alongside several other major regulations and follows the major disruption caused by COVID-19?
Smith: Whilst the impacts of COVID-19 have been felt across the industry, and we have seen delays to the implementation of other regulations, the difficulties are less related to these factors and more driven by the interpretation and harmonisation considerations mentioned earlier.
Parmar: With Brexit dominating much of the European political agenda for 2019 and COVID-19 causing widespread disruption during 2020, coupled with the fact that that key regulatory reporting initiatives such as SFTR, the Refit of the European Markets Infrastructure Regulation (EMIR), CSDR, UMR alongside SRD II were planned for this year meant that it was always going to be a testing year for many institutions to meet the planned deadline.
The challenge in the SRD II directive is in its reliance on multiple chains of intermediaries working cohesively in; 1) effectively identifying and facilitating the exercise of shareholder rights in addition to their disclosure obligations and 2) the agreement with whom the responsibility at each stage of the process sits with. Once there is consensus around these issues, the challenge will then be ensuring that the technology is in place to support the communication from issuer to shareholder.
Poinsignon: SRD II has come with its challenges as the industry has been working on its implementation. At the same time, resources have been mobilised by other regulatory deadlines and put under pressure by the COVID-19 disruption obviously. It is at times like these that market participants most need to rely on reliable partners that can support them and develop ‘future proof’ operating models.
Brown: The fact that SRD II touches on so many different business lines and documentation sets inevitably leads to a more complex implementation and the difficulty only increases when resources also need to be allocated to other high profile regulatory projects while dealing with market disruption from COVID-19.
Much like SFTR and CSDR, it could be argued that SRD II is a burden now but may ultimately force the industry to evolve in ways or at a speed it might not have done otherwise. Do you agree?
Douglas: It is certainly the case that SRD II is prompting intermediaries to change the way they transmit information between shareholders and issuers. The hope is that these new requirements will result in improved transparency and efficiency in relation to shareholder identification and shareholders’ ability to exercise their rights. However, the lack of harmonisation means that the potential benefits to issuers and shareholders may not be felt evenly across the EU.
Poinsignon: Rights of shareholders and to a certain degree those of issuers are at the heart of SRD II. Transparency, strong corporate governance and long-term engagement by investors are at the forefront of many conversations. As always, the financial industry continuously looks at ways to improve itself. Embracing such regulation can also prove to be an accelerator in increasing operational efficiency through more standardisation of messaging (ISO 20022), automation and enhanced connectivity solutions.
Clearstream has been actively participating in working groups at both national and pan-European levels to ensure that forthcoming changes contribute to these objectives. It should, however, be noted that many EU member states have still not adopted SRD II into their own national laws.
Mahmood: ISLA fully endorses the objective of SRD II and the efforts of regulators to promote long term corporate governance across Europe. Empty voting is often labelled as a concern for institutional investors and issuers, however the transparency that this directive will bring only encourages shareholder engagement further, and will create more robust stewardship of companies.
The association of short termism to the securities lending industry in particular is also diminished under SRD II requirements, in which asset managers must disclose to institutional investors their use of proxy advisors, and their policy on securities lending to the regulator in order to promote a greater dialogue between issuer and investor. The full benefits of SRD II, however, will not be met until the shortcomings are resolved by public review.
Parmar: As with all new regulatory reporting requirements, there is always a challenge in being prepared in the timeframes imposed by the regulatory bodies due to limited resources to interpret and implement such initiatives. Although without such a political or regulatory push, this scale of change is unlikely to occur as quickly or even at all.
The intention of the first SRD in 2007 was primarily, to encourage shareholder engagement in the long-term and for transparency of institutional investors, asset managers and proxy advisors. SRD II further builds on this directive and with 2020 being a crucial year for ESG activities and evolution, SRD II will assist the industry in ensuring that measures are being taken by firms to disclose the necessary information that is required under the directive. This will evolve the way in which industry participants act and compliments the sustainable finance disclosures that firms will need to factor in as part of their ESG policies in the future.
Smith: In general terms yes I would agree, however in order for the major objectives of SRD II to be achieved there needs to be a mechanism that introduces certain commonalities to address the divergent operational processes and legal interpretations throughout the EU member states.
Ina Budh-Raja
Director, EMEA, head of product & strategy, securities finance
BNY Mellon
As the focus on ESG grows in importance for our clients and other industry stakeholders, there is also a growing recognition that securities lending has a critical role to play in furthering the sustainable finance agenda by enhancing market liquidity. Securities lending is well-recognised as being an important driver of efficiently functioning markets, for its role in promoting market integrity, and today the sector is inherently entwined with ESG objectives. BNY Mellon works closely with clients to ensure our agency lending programme is adaptive to their key governance needs, so that they are able to provide evidence to their stakeholders how securities lending can help them to meet their long-term ESG objectives.
As an integral part of the EU sustainable finance and ESG agenda, SRD II is aimed at increasing transparency and encouraging long-term stewardship and shareholder engagement. The directive has been received positively by several international initiatives for sustainable investing, including the UN PRI, on the basis that these new rules are in line with the six UN Principles, particularly Principle 2, regarding the need for active owners to adopt ESG issues into their policies and practices.
BNY Mellon supports the introduction of SRD II as a further safeguard to investors, providing an additional level of transparency to clients engaging in securities lending in a well-governed, thoughtful manner, as long-term stewards of their assets. SRD II introduces more robust corporate notification requirements, which will further enable investors to be better equipped when applying their ESG policies. On governance and voting, for example, SRD II is enabling investors to make well-informed decisions concerning voting on issues material to their ESG strategy, whether that be on diversity and inclusion issues, environmental and climate change matters, human capital management, cybersecurity, business ethics, or other issues.
In terms of adoption by the securities lending industry, whilst there have been potential challenges given the areas of divergence in national application of the rules, timing of implementation and interpretation of the directive, the industry has come together through the ISLA SRD II Working Group, led by Tina Baker and Farrah Mahmood, to effectively debate and develop best practices to meet the requirements of the directive and uphold the spirit of the new rules. The ISLA Working Group has played a critical role in formulating harmonised best practice guidance for the market, which will ensure that this industry stands ready to meet the 3 September implementation date.
Marc Poinsignon, Product manager - securities lending & borrowing, collateral management, banking, funding & financing, Clearstream
Farrah Mahmood, Regulatory analyst, ISLA
Rickie Smith, Trading services, product manager, J.P. Morgan
Ina Budh-Raja, Director EMEA head of product & strategy, securities finance, BNY Mellon
Chris Markham-Lee, Senior managing counsel and head of
securities finance legal, EMEA, BNY Mellon
Avinash Parmar, Senior product manager
Pirum Systems
Michael Brown, Senior associate, Clifford Chance
Laura Douglas, Senior associate knowledge lawyer, Clifford Chance
How does SRD II affect the securities finance market specifically?
Farrah Mahmood: The second Shareholders Rights Directive (SRD II) is undoubtedly one of the most important regulatory changes to corporate governance in the EU in recent times, as it does not only impact Europe, but extends globally to any corporations that have their shares listed on a regulated market within the EU.
The biggest impact to the securities finance industry is the obligation on intermediaries, such as triparty agents and agent lenders, where it is now mandatory to assist and facilitate a company’s right to identify a firm’s shareholders, and facilitate the actioning of shareholders rights. This poses a huge operational burden on firms with regards to processing automated shareholder identification requests, in a standard ISO format, under specific time constraints, and whilst also managing additional volume of data and communications.
The definition of an ‘intermediary’ as defined under SRD II - ‘’a person providing services of safekeeping of shares, administration of shares or maintenance of securities accounts on behalf of shareholders or others, such as investment firms, credit institutions and central securities depositories’’, is also open for interpretation to firms within the securities finance market, which has caused much debate.
Securities lending chains can often be complex, and under a title transfer agreement, all rights are passed to the borrower, including the right to vote. It is currently arduous for issuers to identify who their underlying shareholders are, and thus, the International Securities Lending Association (ISLA) fully supports the introduction of SRD II which will certainly help to improve overall transparency.
Marc Poinsignon: Securities financing transactions are known to play a pivotal role in supporting liquidity in the capital markets. Lenders and borrowers meet their funding and financing needs while mitigating their risks by exchanging loans of securities or cash against collateral assets. Whilst different contractual agreements are used by counterparts, for securities lending, loan securities are typically transferred from the lender to the borrower under a title transfer versus collateral under either title transfer or pledge (security interest) for the duration of the transaction. Such ownership structures and the custody arrangements are relevant in the context of shareholder identification requests.
At the same time, allowing the long-term investor in the securities to access corporate action information and to exercise rights is key. Established mechanisms exist to enable the lender and the collateral giver to recall their securities ahead of events.
Triparty collateral agents and intermediaries such as Clearstream facilitate the process and the ISLA SRD II working group is doing a great job in developing best practice guidelines.
Avinash Parmar: SRD II was designed to promote and increase long-term shareholder engagement and to improve transparency between issuers and the end investors of the shares.
From a securities financing perspective, once a security has been lent, all rights are transferred to the borrower including the right to vote, this has at times been a concern among asset managers in the securities finance market as it could lead to empty voting, even though there are codes of conduct and usually legal arrangements in place to prevent this. Under SRD II the increased transparency will help give more comfort to asset managers who lend their securities with the introduction of additional disclosure and regulatory reporting measures. However, these requirements will present challenges within the securities finance market, as it will now fall on any intermediaries to assist and facilitate in identifying and notifying underlying shareholders within the timeframes imposed under the directive.
In order to protect voting rights, lenders should/will retain the right to recall and restrict any securities. Securities can be recalled and restricted from lending until voting is concluded, thereby preventing empty voting (where the borrower can potentially act in a speculative way). This approach is aligned with the Principles for Responsible Investment (PRI) and the International Corporate Governance Network’s Guidance on Securities Lending, as well as the European Fund and Asset Management Association’s (EFAMA) Stewardship Code and Principle. SRD II in Europe should add further comfort and also add to oversight requirements.
By logical extension, asset managers are likely to increase their oversight on their securities lending programmes, with decisions around lending over record dates reviewed. This is likely to create additional control measures on lending activities be they in-house or through an agent lending programme including a review of lending criteria. So, process and controls will need to be reviewed, and this will feed into the ongoing discussion of securities lending and its role under an environmental, social and governance (ESG) lens. How firms run their securities lending and collateral management programmes, particularly with regard to return and recall management and fails monitoring, will also be challenged by the upcoming Central Securities Depositories Regulation (CSDR), with mandatory buy-ins and penalties for failing transactions becoming standard. We mustn’t forget, however, that the European Securities and Markets Authority (ESMA) itself recently stated in December 2019 that “short-selling and securities lending are key for price discovery and market liquidity” and one recent high-profile case in Germany has only added weight to this statement.
Michael Brown: Although the securities finance market will feel the effect of SRD II in various circumstances, the impact on parties to a purely bilateral Global Master Securities Lending Agreement (GMSLA) structure is not dissimilar to the impact that will be felt by parties in other bilateral trading relationships or where relevant securities are held with a custodian. Additional impacts arise in the context of agent lenders (irrespective of whether they are an intermediary for the purposes of SRD II) and triparty collateral structures. Even for triparty structures, there are different concerns for parties operating security structures (e.g. for a Pledge GMSLA) and for traditional title transfer structures. In that context, it is perhaps unsurprising that ISLA has been working on template documentation in respect of triparty collateral managers and agent lenders.
ISLA’s documentation seeks to remedy the tension between SRD II’s requirements and the fact that the party with a long-term interest in the collateral is (absent a default) typically the collateral provider. As a result, the proposal is for information destined for shareholders to be passed on to the collateral provider in most circumstances, which will allow the collateral provider to determine whether it wishes to substitute the collateral and exercise the rights enjoyed by the shareholder on the record date.
Rickie Smith: One of the core objectives of SRD II is to improve the communication and interaction between issuers and long term investors, by establishing specific requirements to encourage shareholder engagement. The specific requirements impacting the securities financing market include 1) identification of shareholders; 2) transmission of information between issuers and shareholders, via intermediaries; 3) facilitation of the exercise of shareholders rights.
For each of the above requirements, SRD II imposes certain obligations on firms that fall within the SRD II definition of ‘intermediary’. This is the first challenge, given the indistinct definition of an ‘intermediary’ per SRD II, which can lead to inconsistent conclusions for firms who are performing similar functions, when concluded if they are performing the role of an ‘intermediary’. Per the regulation, in order to be an “intermediary”, the entity must be providing one of three activities to shareholders in relation to “shares”, namely: (A) safekeeping; (B) administration of shares; or (C) maintenance of securities accounts. It is therefore important that the services firms provide to their underlying clients are considered against this definition when concluding their analysis.
With regard to the shareholder identification (SI) requirements, any firm acting in the capacity as an intermediary is required to (1) respond to a SI request received from either the issuer, or another intermediary, and (2) forward on the request to the next intermediary in the chain, should their underlying client themselves identify as an intermediary.
Speaking specifically from a triparty agent perspective, the securities finance market is particularly impacted with regard to European equities exchanged as collateral under a title transfer arrangement. The triparty agent, as an intermediary, will be required by SRD II to respond to the SI requests, identifying the shareholder on its books and records based upon the legal nature of the encumbered collateral holding. Given the frequent reallocations, recalls and substitutions, although the collateral holdings are not deemed long-term assets of the collateral receiver, the collateral receiver may be identified as the ‘shareholder’ based upon the ownership of the asset at the record date of the SI request. If the collateral receiver is acting as an agent on behalf of underlying beneficial owners, they themselves may then be considered an intermediary and be required to receive SI requests and respond with the underlying beneficial owner details accordingly.
Chris Markham-Lee: In the loan leg of a lending transaction, where securities move full title transfer to the borrower, the impact of SRD II is minimal. It is a standard feature of the BNY Mellon agency lending programme, that securities may be recalled at any time if a lender intends to exercise voting rights and we engage actively with clients to effect their recall policies. The GMSLA requires the borrower to take instruction from the lender with respect to corporate events other than voting, but that does not have an impact on SRD II obligations.
The less straightforward impact of SRD II on securities lending is in relation to collateral. In that case, the lender has taken collateral as a risk management device and is not an active owner and therefore does not expect to be engaged in corporate events or voting - in fact, they would only ever access that collateral upon a borrower default. The taking of the equities collateral is not an investment decision, as such. It has therefore been a matter of significant industry debate to reconcile the commercial realities of risk management through collateralised lending with the SRD II obligations, but as an industry I believe we have found the correct solution which upholds the spirit of the directive and ensures the right of investor shareholders to receive relevant information and exercise their voting rights.
A major challenge of SRD II comes from the fact it’s a directive and therefore its terms are open to interpretation by the 27 member states. How big a challenge is this and what can be done to mitigate the problems this raises?
Parmar: With SRD II being a directive rather than a regulation, member states have some discretion on how the rules within the directive are transposed into their local laws.This certainly creates the potential for variations in the implementation of the directive. Furthermore, the directive contains certain provisions which will allow the member states to deviate in significant areas, such as the exclusion of certain transaction types. So, theoretically, each of the 27 member states can interpret and impose penalties for noncompliance that differ from the other states.
Additionally, the responsibility of identifying and notifying shareholders may also be unclear, as the definition of ‘Intermediary’ can be somewhat ambiguous within the directive. To help mitigate these potential problems, it is important for member states and participants to agree to best practices as a harmonised ‘collective’ group rather than individually. Raising awareness in working groups such as ISLA’s SRD II best practice task force aims to identify and resolve parts of the directive that are open to interpretation and form consensus amongst participants.
Smith: This is true and poses a significant challenge for the industry to apply a consistent methodology when dealing with the requirements of the directive. One such challenge is that the directive does not define the term ‘shareholder’ and has left this to each member state to define through its own transposition into national law. Additionally, SRD II does not cover important elements of the operational processes required to ensure regulatory adherence. All these challenges have contributed to the creation of which has created a fragmented model when building solutions to adhere to the SRD II requirements and put a strain on technology builds and operational processes in having to meet divergent national requirements.
To address these specific concerns, industry associations have worked cohesively in drafting best market practises to agree upon standardised operational processes and workflows.
Markham-Lee: Whilst there are natural complexities associated with the national interpretation and implementation of the directive, the securities lending industry has moved forward through the forum of the ISLA SRD II Working Group, which has considered in detail any areas of divergence and legal interpretation. I think if we regard the spirit of the directive as the investor shareholder receiving the relevant information, then that is the approach to take, although some markets seem to allow the intermediary custodian to be regarded as the shareholder. From an agency lending perspective it is clear that if we are providing custody of collateral, we are the intermediary and our lender client is the shareholder when receiving equities on a full title transfer basis.
Mahmood: As many member states are yet to transpose the directive into national law, this has caused great uncertainty for implementation efforts. For example, where there is a contrast in the definition of a ‘shareholder’ in local jurisdictions. Where there is no consistency across the EU, ISLA feel that in many cases the information provided to the issuer will not reach the original objective of the directive of full transparency, and hence we will continue to advocate for a review to create standardisation across the market.
ISLA and its members support the industry task force’s efforts to produce the recently finalised Shareholder Identification Market Standards, and will adopt many of these into our own best practices for securities lending.
In June, the European Commission’s Capital Market Union High Level Forum issued a report proposing a review of shareholders rights by the end of 2023 to address the lack of harmonisation. This will most likely lead to a public consultation in which ISLA’s SRD II working group can respond directly to securities lending specific nuances.
Poinsignon: The new requirements of SRD II aim predominantly at improving European corporate governance standards through, amongst others, increased long-term shareholder engagement and timely and transparent communication between issuers and investors. This impacts notably the whole chain of custody intermediaries who need to meet the requirements on shareholder identification, information exchange and exercise of rights.
The fact that member states may go beyond the standards and have diverging definitions or holding thresholds adds complexity which calls for an in-depth review and planning towards the implementation of agile and automated processes that manage the particularities. Since 2017, four European task forces have been tackling that issue and working on joint market standards for shareholder identification, general meetings and a golden operational record for corporate actions and general meetings, as well as ISO messaging standards.
Laura Douglas: The lack of harmonisation across member states is a particular challenge for intermediaries because the applicable law for determining who is considered the ‘shareholder’ depends on how SRD II has been implemented in the issuer’s jurisdiction, not the intermediary’s jurisdiction. Member states are also not uniformly aligned on other points, such as the optional de minimis threshold for shareholder identification and the possibility of prohibiting intermediaries charging for their services. In addition, some member states have ‘gold plated’ the SRD II requirements on intermediaries, for example, by extending their application to non-equity instruments. As a result, many intermediaries need to be ready to comply with a range of different rules for the various securities that they provide services in respect of.
The High Level Forum on Capital Markets Union recognised the challenges posed by this lack of harmonisation in its final report published in June and recommended that the commission should therefore introduce an EU-wide definition of ‘shareholder’ for this purpose and further harmonise the rules on shareholder identification and exercise of shareholder rights. However, the report envisages that these changes should be agreed by 2024 and so unfortunately they will not assist intermediaries seeking to comply with the current SRD II requirements.
The letter requesting a delay to SRD II was signed by 11 trade bodies. Does this mean that a broad spectrum of the market is struggling to meet the September deadline?
Douglas: The fact that the letter requesting a delay was signed by 11 trade bodies from across the financial markets underlines how many different business areas and documentation sets are impacted by these requirements. In addition to the challenges posed by the COVID-19 pandemic, a key concern highlighted in that letter was that various member states had still not finalised their national implementation of the SRD II intermediaries requirements, giving very little time for intermediaries to take into account all the different member state approaches to implementation ahead of the September deadline. Most member states have now finalised their implementation of SRD II intermediaries requirements, alleviating this concern to some extent, but the short timeframe between finalisation of some of these requirements and the implementation date remains a challenge.
Poinsignon: A broad range of market participants are impacted including EU issuers, intermediaries, institutional investors, proxy advisors and more. Firms that have struggled to analyse how it impacts their activities and implement changes have had to play catch-up with very little time remaining.
Markham-Lee: Initially the delay was requested due to the immediate issues raised by COVID-19, causing resources to be stretched across the market, at the same time as other significant EU regulation was coming into force – namely the Securities Financing Transactions Regulation (SFTR). However, despite the working from home environment, there hasn’t been any compromise in meeting regulatory deadlines.
A lot of work has gone into the ISLA SRD II Working Group discussions and as a result, the industry is preparing to meet the required deadline. I have also been heartened by the focus from ISLA, Clifford Chance and industry participants to give this directive the real attention it deserves in the required timeframe.
Mahmood: As so many firms will be impacted by this directive in September, it has certainly not gone unnoticed as to the vast impact of SRD II to the securities finance industry and the wider market.
In terms of the sheer volume of data processing as per the requirements of article three, firms will require additional resources and technology builds which have been somewhat constrained heavily by the COVID-19 pandemic. The directive is also open to interpretation, and therefore eleven trade bodies felt it necessary to request a delay, highlighting the weighty impact to various firms.
Smith: Despite market participants making every effort to prepare for the implementation of SRD II, it is unlikely that the objectives will be fully achieved. The main concerns highlighted from the market are the divergent national transpositions of SRD II having a practical effect of requiring different operational processes in order to comply. This coupled with the legal risk arising from the uncertainty of requirements within certain EU countries (i.e. definition of shareholder) is a concern and also proving difficult for market readiness.
Parmar: With several regulatory legislative measures such as SFTR coming into play during 2020 and the widespread disruption caused by COVID 19, many member states and market participants have voiced concerns about their ability to meet the 3 September deadline, which is reflected in the significant number of trade bodies lobbying for a delay in the implementation timeframe. As we have seen with delays to Uncleared Margin Rules (UMR) and CSDR, the industry would welcome a reasonable delay, given unanticipated challenges of 2020.
How much of an issue is that the delay request was rejected?
Mahmood: The eleven associations that signed the letter requesting a delay (including ISLA), have established the necessary best practice requirements for the go live in September, and we will continue to advocate on this topic in the future.
Smith: There is no doubt that the delay would have allowed for more time to work through and address some of the specific concerns and issues with the regulation, however the industry has to now fully focus on being ready to comply by 3 September.
Poinsignon: Impacted firms have limited room to enhance and finalise their solutions prior to the deadline which may entail that greater process and messaging efficiency may still be achieved afterwards.
SRD II will challenge custodians to communicate much more rapidly and effectively with their underlying clients than they currently are. What are the hurdles in achieving this?
Markham-Lee: As a custodian and agent lender, BNY Mellon prioritises engagement and communication with clients in all areas of the investment lifecycle. The ability to provide the required information to clients has always formed part of a good custody service offering, appreciating that different clients require differing levels of service on proxy voting, in particular.
One area of uncertainty which arose in the interpretation of the directive is the ability of a client to ‘opt out’ from receipt of information required by the directive. However, in assessing the spirit of the directive, there is general industry consensus through the ISLA SRD II Working Group that there should not be an opt out, but that instead all clients should be set up for proxy voting services and should receive corporate information, though they may choose to delegate such receipt to another party.
Brown: In practice the challenges are both operational and legal. Systems need to be in place to ensure that all intermediaries can react in the required timeframe and this requires both operational readiness and contractual agreement between all relevant parties. As custody chains increase in length this can put greater strain on the operational requirements.
The operational hurdles are greater where a service provider would not traditionally provide a full range of custody services but which would be caught by the definition of intermediary in SRD II. Equally, more complex legal questions arise if there is a conflict between SRD II and the laws of a jurisdiction outside the EU, for example laws relating to banking secrecy or confidentiality requirements. Such conflicts are not unique to SRD II and memorably arose in respect of transaction reporting requirements but it will take time and careful analysis for a solution to emerge.
Poinsignon: To support the key objectives of the directive, intermediaries along the custody chain have had to assess operational impacts to meet the requirements and tight processing deadlines (generally one business day) while catering for different national law requirements. The level of transmissions and communications is expected to increase and one challenge from an industry standpoint has been to increase straight-through processing. In turn, this has paved the way for a greater adoption of the ISO 20022 messaging standard. Clearstream, as an intermediary in the holding chain, is supporting its customers’ globally to mitigate the impact and be compliant.
Parmar: The ability to identify, transmit information and facilitate the exercise of shareholders rights under the directive presents many challenges, particularly with the reliance on intermediaries to cooperate in the timely identification of shareholders and facilitating the exercising of their rights.
Custodians will need to have sophisticated machine readable (ISO format) methods of communication to disseminate meeting and agenda details to their clients, capture voting preferences, instructions, receipts and confirmation statuses if they are to adhere to the timeframes imposed under the directive.
The need for improved technology to standardise and automate the processing of meetings, proxy voting and shareholder identification is a challenge that both custodians and intermediaries must consider as part of their obligations under the directive.
Technology will play an instrumental role in the ability to identify and transmit data to shareholders and new technologies such as distributed ledgers could be leveraged and potentially assist in the directive’s transparency requirements however more analysis is likely required. Therefore, custodians and their clients will need to embrace the changes that this will drive and look at replacing legacy technology in order to deal with these changes.
Smith: Custodians play a vital role in the financial system providing investors access to entitlements in securities issued by companies and services necessary to give effect to investors’ rights in these securities. Having an automated workflow process is paramount in ensuring that custodians (including us as triparty agent) can quickly facilitate requests between issuer and shareholder. There are a few third party vendor solutions that have carried out extensive development work in order to offer an outsourced solution, improving the speed in which information can flow through the intermediary chain.
The main hurdles that still exist are a result of the inconsistencies across numerous EU member states transpositions, which have created a divergent operational process in order to comply and will, in the absence of a EU standardised approach, continue to cause issues.
How much do these difficulties come from the requirements of SRD II itself and how much of it is related to the fact SRD II comes into effect alongside several other major regulations and follows the major disruption caused by COVID-19?
Smith: Whilst the impacts of COVID-19 have been felt across the industry, and we have seen delays to the implementation of other regulations, the difficulties are less related to these factors and more driven by the interpretation and harmonisation considerations mentioned earlier.
Parmar: With Brexit dominating much of the European political agenda for 2019 and COVID-19 causing widespread disruption during 2020, coupled with the fact that that key regulatory reporting initiatives such as SFTR, the Refit of the European Markets Infrastructure Regulation (EMIR), CSDR, UMR alongside SRD II were planned for this year meant that it was always going to be a testing year for many institutions to meet the planned deadline.
The challenge in the SRD II directive is in its reliance on multiple chains of intermediaries working cohesively in; 1) effectively identifying and facilitating the exercise of shareholder rights in addition to their disclosure obligations and 2) the agreement with whom the responsibility at each stage of the process sits with. Once there is consensus around these issues, the challenge will then be ensuring that the technology is in place to support the communication from issuer to shareholder.
Poinsignon: SRD II has come with its challenges as the industry has been working on its implementation. At the same time, resources have been mobilised by other regulatory deadlines and put under pressure by the COVID-19 disruption obviously. It is at times like these that market participants most need to rely on reliable partners that can support them and develop ‘future proof’ operating models.
Brown: The fact that SRD II touches on so many different business lines and documentation sets inevitably leads to a more complex implementation and the difficulty only increases when resources also need to be allocated to other high profile regulatory projects while dealing with market disruption from COVID-19.
Much like SFTR and CSDR, it could be argued that SRD II is a burden now but may ultimately force the industry to evolve in ways or at a speed it might not have done otherwise. Do you agree?
Douglas: It is certainly the case that SRD II is prompting intermediaries to change the way they transmit information between shareholders and issuers. The hope is that these new requirements will result in improved transparency and efficiency in relation to shareholder identification and shareholders’ ability to exercise their rights. However, the lack of harmonisation means that the potential benefits to issuers and shareholders may not be felt evenly across the EU.
Poinsignon: Rights of shareholders and to a certain degree those of issuers are at the heart of SRD II. Transparency, strong corporate governance and long-term engagement by investors are at the forefront of many conversations. As always, the financial industry continuously looks at ways to improve itself. Embracing such regulation can also prove to be an accelerator in increasing operational efficiency through more standardisation of messaging (ISO 20022), automation and enhanced connectivity solutions.
Clearstream has been actively participating in working groups at both national and pan-European levels to ensure that forthcoming changes contribute to these objectives. It should, however, be noted that many EU member states have still not adopted SRD II into their own national laws.
Mahmood: ISLA fully endorses the objective of SRD II and the efforts of regulators to promote long term corporate governance across Europe. Empty voting is often labelled as a concern for institutional investors and issuers, however the transparency that this directive will bring only encourages shareholder engagement further, and will create more robust stewardship of companies.
The association of short termism to the securities lending industry in particular is also diminished under SRD II requirements, in which asset managers must disclose to institutional investors their use of proxy advisors, and their policy on securities lending to the regulator in order to promote a greater dialogue between issuer and investor. The full benefits of SRD II, however, will not be met until the shortcomings are resolved by public review.
Parmar: As with all new regulatory reporting requirements, there is always a challenge in being prepared in the timeframes imposed by the regulatory bodies due to limited resources to interpret and implement such initiatives. Although without such a political or regulatory push, this scale of change is unlikely to occur as quickly or even at all.
The intention of the first SRD in 2007 was primarily, to encourage shareholder engagement in the long-term and for transparency of institutional investors, asset managers and proxy advisors. SRD II further builds on this directive and with 2020 being a crucial year for ESG activities and evolution, SRD II will assist the industry in ensuring that measures are being taken by firms to disclose the necessary information that is required under the directive. This will evolve the way in which industry participants act and compliments the sustainable finance disclosures that firms will need to factor in as part of their ESG policies in the future.
Smith: In general terms yes I would agree, however in order for the major objectives of SRD II to be achieved there needs to be a mechanism that introduces certain commonalities to address the divergent operational processes and legal interpretations throughout the EU member states.
Ina Budh-Raja
Director, EMEA, head of product & strategy, securities finance
BNY Mellon
As the focus on ESG grows in importance for our clients and other industry stakeholders, there is also a growing recognition that securities lending has a critical role to play in furthering the sustainable finance agenda by enhancing market liquidity. Securities lending is well-recognised as being an important driver of efficiently functioning markets, for its role in promoting market integrity, and today the sector is inherently entwined with ESG objectives. BNY Mellon works closely with clients to ensure our agency lending programme is adaptive to their key governance needs, so that they are able to provide evidence to their stakeholders how securities lending can help them to meet their long-term ESG objectives.
As an integral part of the EU sustainable finance and ESG agenda, SRD II is aimed at increasing transparency and encouraging long-term stewardship and shareholder engagement. The directive has been received positively by several international initiatives for sustainable investing, including the UN PRI, on the basis that these new rules are in line with the six UN Principles, particularly Principle 2, regarding the need for active owners to adopt ESG issues into their policies and practices.
BNY Mellon supports the introduction of SRD II as a further safeguard to investors, providing an additional level of transparency to clients engaging in securities lending in a well-governed, thoughtful manner, as long-term stewards of their assets. SRD II introduces more robust corporate notification requirements, which will further enable investors to be better equipped when applying their ESG policies. On governance and voting, for example, SRD II is enabling investors to make well-informed decisions concerning voting on issues material to their ESG strategy, whether that be on diversity and inclusion issues, environmental and climate change matters, human capital management, cybersecurity, business ethics, or other issues.
In terms of adoption by the securities lending industry, whilst there have been potential challenges given the areas of divergence in national application of the rules, timing of implementation and interpretation of the directive, the industry has come together through the ISLA SRD II Working Group, led by Tina Baker and Farrah Mahmood, to effectively debate and develop best practices to meet the requirements of the directive and uphold the spirit of the new rules. The ISLA Working Group has played a critical role in formulating harmonised best practice guidance for the market, which will ensure that this industry stands ready to meet the 3 September implementation date.
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