ISINs for OTC Derivatives: Is Licensing an Issue?

Update 9/25/2017: Financial firms using ANNA’s new Derivatives Service Bureau to receive ISIN codes for OTC derivatives can expect to receive rebates for overpaying far more quickly, DSB officials now say. Likewise, financial firms will also have to fork over more money if they have underpaid.

Instead of waiting until the end of 2018 to recalculate the fees, as originally planned. the DSB will announce the corrected fees by January 15, 2018. The recalculation will be based on all executed contracts received by January 5.

After receiving signed contracts, the DSB is now invoicing firms fees based on early estimates of the number and types of users. The upfront fee for 2018 is due within 30 days of signing the user contract if the contract is signed before October 23. If the contract is signed after this date, the upftont fee will be due within two weeks. The difference between this initial fee and the recalculated fee is what will be either rebated or charged to DSB users.

“The revised approach provides DSB’s users with two cashflow benefits,” says Sassan Danesh, managing director of Etrading Software. “First, it minimizes the risk of user overpayment and subsequent rebate by peforming the final fee calculation after all users have been contracted. Second should an overpayment occur, the rebate will be distributed nine months earlier than originally planned.” Danesh, whose firm serves as the DSB’s technical and management partner, discussed the DSB’s user agreements at a recent webinar hosted by CUSIP Global Services, North America’s national numbering agency and FIMA.

In addition to changing the timetable for calculating user fees, the DSB has also extended the duration of the initial user contracts.  Instead of ending on September 30, 2018, as originally planned, the initial user agreement and fee will reflect a 15-month period — including the fourth quarter of 2017. The user agreement will end on December 31 in 2018 and future years. “The change in the first year’s contract aligns the DSB fee model with the budgeting process of a significant percentage of the DSB user community,” says Danesh. In order for a firm to be onboarded to the DSB, it must first sign and deliver a user agreement to the DSB. Onboarding will be handed on a first come-first serve basis says Danesh. It will take at least five business days to complete the process of connecting to the DSB and testing the connectivity.

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Published 8/25/2017: Financial firms needing to create International Securities Identification Numbers for over-the-counter derivatives will have one less worry when time comes to pay for their ISINs.

Until they get their invoices in late September, they may not know exactly how much they will have to prepay the new Derivatives Service Bureau for the first year of creating ISINs. However, they can breathe a sigh of relief that they won’t have to deal with any additional fees or distribution restrictions on ISINs for US securities that may be used to identifying underlying assets.

There is just one caveat to that free ride: the US ISINs can only be used as part of the OTC ISIN file in the “ordinary course of business including reporting or other post trade operations,” according to the DSB user agreement.  That regulatory reporting notably includes OTC reporting for the second incarnation of the European Markets in Financial Instruments Directive (MiFID II), which goes into effect in January 2018.

Users who might be tempted to re-use the US ISINs or strip out their embedded CUSIPs for any other purpose will have to sign a separate licensing agreement with CUSIP Global Services (CGS) and pay its required fees. The US national numbering agency issues nine-digit alphanumeric CUSIPs and twelve-digit alphanumeric ISINs for US securities.

CGS recently agreed to indefinitely extend its original five-year agreement with the European Commission to provide firms with ISIN codes, without any extra information, only for US securities for free. However, that deal is limited to firms located in the European Economic Area. Although it is expected that virtually all reporting for the European regulations will come from European firms, the DSB user agreement does not distinguish where the reporting firm is domiciled.

Effective in January 2018, MiFID II requires financial firms to report their transactions to regulators. In its technical reporting standards published last year, the European Securities and Markets Authority (ESMA), listed the ISIN as the preferred instrument identifier for EU regulatory reporting, including for OTC derivatives. National numbering agencies typically issue local identifiers and ISINs for equities, debt, exchange-traded and other financial instruments to help financial firms, market infrastructures and other organizations keep track of the securities they trade for themselves and their customers. Last summer, ANNA’s membership voted to establish a new fully automated, global numbering agency to issue the so-called “OTC ISINs” to accommodate the specific needs of the OTC market for real-time ISIN allocation.

Following various levels of user testing, the DSB is scheduled to go into live production on October 2, issuing ISINs for interest rate derivatives, credit derivatives, equity derivatives, foreign exchange derivatives and commodity derivatives. The DSB published its final fee model for the DSB in late June, following industry feedback to original proposal. Operating on a cost-recovery basis, the DSB will charge fees to three of its four categories of users: power, standard, and infrequent. Registered users, the fourth category, will not pay because they cannot create ISINs. Financial firms have to prepay the DSB based on the category of users they fall under to ensure the DSB has sufficient funds to remain operational for its first year of business.

Intermediary Concerns

The issue of licensing restrictions for users of the DSB was raised by Bloomberg executive Richard Young in a LinkedIn commentary on July 31 entitled “ANNA DSB — a License to Number.” He criticized the DSB for requiring fees not just for the creation of ISINs, but for anyone who “just wants to keep up to speed with ISIN creation.” Young claims that such a pricing policy contradicts the DSB’s promise that it would not charge for any download of the ISINs archive or any part of the ISIN archive. He also took issue with the DSB’s requirement that firms distributing ISINs “for onward use” to their clients are required to give up the identities of their clients so they can pay for separate licensing fees for ISINs.

Young’s stance reflects Bloomberg’s efforts at positioning its own FIGI codes as a better alternative to ISINs for identifying OTC derivatives. The data giant may have made some industry inroads, but recently failed to achieve one important goal — winning accreditation from the International Organization for Standardization.

Kalliomaki acknowledges the validity of Young’s gripe about requiring fees for anyone that just wants to keep up with ISIN creation, but points out that fees are related to user demands on the DSB’s system. “Users can access the DSB ISIN archive, including end-of-day data, without cost,” she says. “Obtaining real-time updates of new ISIN creations through programmatic connectivity will be given to the highest-cost category, labelled a power user. That category is designed for high-volume ISIN creators and firms, including data vendors, that desire the latest codes for their databases or possibly commercial products.”

In comparison, Kalliomaki points out, firms in the less-expensive standard user category are not wired to the DSB for ISIN creation and have a cap of 5,000 ISIN creation requests per year. As is the case with all DSB users, standard users can obtain free archive downloads – as current as the most recent end of day — through the DSB website or through programmatic connections. There are no charges for downloads, Kalliomaki says. Instead, there will only be fees for the choice of user category reflecting ISIN creation and intra-day data updates.

Kalliomaki also calls one of Young’s other complaints related to intermediaries a misunderstanding of the DSB’s pricing model. She points out that identifying intermediaries’ clients is only required when they would otherwise be categorized as fee-paying customers if they were coming directly to the DSB.

“In keeping with the DSB’s cost recovery framework, the fee model developed through industry consultation is intended to ensure costs are equitable for all users,” she says. “We are simply requiring users that utilize an intermediary have the same contract and payment agreement with the DSB as direct users.”

Any level of user, including registered users, can use the query function to search for ISINs in real-time as well as search using particular characteristics, including the date of the last ISIN update. That timeframe will equate to the allocation date in most cases. For registered and infrequent users, query results are limited to five ISIN records per search. By contrast, standard users can obtain as many as 50 ISIN records per search. For power users, GUI-based search results can go to 500 records.

Of the four categories of DSB users, that of infrequent users is completely new based on industry feedback during its last consultation period for its fee model. Infrequent users are limited to 100 ISIN creation requests per year. Another change in the fee model is the new elimination of any price differential between users downloading the archive of only one asset class versus downloading multiple asset classes.

Pay What?

The DSB user agreements were sent to firms in mid-July, and are due back to the DSB by September 15. Invoices are expected to go out on September 25 with payment due on October 23. Except for the infrequent user category that has a flat fee of of €3,000, the fees for power users and standard users will be based on the total number of users in those categories.

Their fees will be calculated by subtracting the revenues of the infrequent user contracts from the entire DSB overhead, with the remainder distributed across the standard and power users. Power users will end up paying as three times as much as standards users. Firms which underestimated their need for ISINs when initially classifying themselves will be allowed to upgrade their category, but they will a pay the rate of the higher category rounded off to the entire affected quarters for the rest of the DSB’s business year.

Given that the DSB will already have been launched on October 2, it is unlikely it will disconnect any users who haven’t paid their bill by October 23. “We understand the timelines are very aggressive, but these have been driven by the pending regulatory mandates,” says Kalliomaki. “Users who have executed the agreement by September 15 can connect to the DSB and commence readiness for meeting regulatory timelines.”

So far, about 500 users  with 130 programmatic connections are linked to the DSB in user acceptance testing using ReST API or the FIX protocol. Kalliomaki could not estimate what firms might pay in each user category based on these preliminary figures. That is because multiple active connections in the current testing phase may represent individual clients or firms working through an intermediary or a single-point of access for multiple business departments in a firm that may ultimately have multiple connections and contracts.