The impact of Brexit on the capital market

Published: 1. December 2020.

Pursuant to the Agreement on the withdrawal of the United Kingdom of Great Britain and Northern Ireland from the European Union and the European Atomic Energy Community, ratified by the European Parliament on 29 January 2020, as of 1 February 2020 the United Kingdom of Great Britain and Northern Ireland (UK) has no longer been a Member State of the European Union (EU).

The Withdrawal Agreement provides for a transition period lasting from 1 February 2020 to 31 December 2020, after which, as of 1 January 2021 the UK will be considered as a third country to the EU Member States.

During the transition period, the EU is conducting negotiations with the UK aimed at reaching an agreement on the new partnership regulating new relationships between the EU and the UK.

What will change and what will remain the same regarding financial services?

During the transition period, UK companies which had sent their notification for the cross-border provision of services in the Republic of Croatia by 31 January 2020 can freely provide their services on the basis of the EU passport, and the EU law (MiFID II / MiFIR, EMIR, CSDR, AIFMD, IDD, Solvency II…) will continue to apply to them.

After the end of the transition period, the UK companies will no longer be able to do so and will have to adjust their business operations to the fact that as of 1 January 2021 they will have the status of third country companies with respect to the EU Member States.

In July 2020, the European Commission published information on the changes that will occur at the end of the transition period, as well as sector-specific preparedness notices for the UK’s withdrawal from the EU relating to investment fund management companies, credit rating agencies, institutions for occupational retirement provision, insurance and reinsurance business, investment services and market infrastructure. According to these publications, the Commission offers no guarantees that the agreement on the new partnership regulating new relationships between the EU and the UK will have been reached by the end of the transition period. A special emphasis is placed on the fact that after the end of the transition period the UK will be a third country as regards the application and implementation of the EU law. Therefore, stakeholders, and in particular economic operators, are invited to take account of the implications of the end of the transition period on their business operations.

Hanfa would like to invite its supervised entities, as well as legal and natural persons from the Republic of Croatia that use services provided by UK financial intermediaries, to carefully analyse the information available on the implications of the end of the transition period, take any necessary steps for the purpose of assessing the impact on their business operations and, in the case of Hanfa’s supervised entities, ensure on-going compliance with regulations, including those relating to legal and natural persons they provide their services to.

Next steps

Hanfa will continue monitoring and regularly updating information on agreements reached regarding the provision of financial services, in order to provide timely information to the market and users on the potential impact of the agreements on their rights and interests.

As from 1 January 2021, Hanfa will delete from its registers the companies with their registered offices in the UK and Gibraltar that have by that moment been authorised, on the basis of the EU passport, to provide their services in the Republic of Croatia or distribute financial products, insurance products, or funds managed by UK management companies.

Brexit and its impact on the capital market

For the purpose of protecting financial services users and safeguarding the stability of the financial system, Hanfa would like to draw the attention of its supervised entities and the public concerned to the consequences that the withdrawal of the UK from the EU may have on the Croatian capital market.

Pursuant to the Withdrawal Agreement, the EU law will apply until the end of the transition period (31 December 2020), after which the UK will become a third country as regards the application and implementation of the EU law.

Considering Hanfa’s attention paid to protecting consumers, ensuring the smooth functioning of financial markets and safeguarding the financial stability, and following the analysis of data obtained from supervised entities, no systemic risks are expected to materialise on the domestic capital market, due to the low level of exposure of its entities to the UK market. Irrespective of the low level of risk, all market participants are invited to follow the latest news and updates on Brexit and its consequences, and to adjust their business operations to the latest developments, paying particular attention to the fact that the UK will become a third country as of 1 January 2021, and that the EU and the UK are still negotiating their future partnership, which should regulate, in a specific manner, certain issues related to the provision of financial services.

As a direct consequence of Brexit for the domestic capital market, regulated entities from the UK will no longer be able to provide services and perform activities directly in the EU Member States (the so-called passporting). Therefore, they will have to:

apply, in a timely manner, for a third-country service provider licence (which depends on regulatory regimes of Member States)
move their business to another EU Member State and obtain a new licence, or
cease providing their services in the EU.

In this respect, the European Securities and Markets Authority (ESMA) has issued the following public statement: Timely submission of requests for authorisation in the context of the United Kingdom withdrawing from the European Union.

Croatian entities passporting into the UK will no longer be able to do so after 1 January 2021, i.e. after Brexit, but will have to adjust to the new UK regulatory regime. The UK has established a Temporary Permissions Regime, allowing EU firms using the passport to continue providing their services for a certain period of time after Brexit.

Croatian entities doing business in the UK need to check with UK firms if and how they have ensured preconditions for further cooperation after Brexit. It is also advisable to arrange for alternative possibilities for conducting transactions and using services, e.g. by concluding contracts on the provision of similar services with firms in other EU Member States.

Apart from these direct consequences, Brexit may also exert an indirect impact, as various events on foreign markets could have an effect on parent companies of domestic financial institutions, as well as on the entire Croatian economy, considering the risks related to the contraction of large EU economies having intense economic relationships with Croatia (e.g. Germany or Italy).

Hanfa's international activities

Hanfa participated in the preparation of measures needed to address Brexit-related issues as a member of the European Securities and Markets Authority (ESMA) and European Insurance and Occupational Pensions Authority (EIOPA), and through its cooperation with the Ministry of Finance at the Council of the European Union, European Commission working groups and the Ministry of Foreign and European Affairs.

By participating in the work of ESMA, Hanfa took part in the preparation and harmonisation of the Multilateral Memorandum of Understanding, that was supposed to be concluded between representatives of the European Economic Area (EEA) supervisory authorities and the UK’s Financial Conduct Authority (FCA) in a no-deal Brexit scenario. As the Withdrawal Agreement entered into force on 1 February 2020, triggering the start of the transition period, during which the EU law is applicable to the UK, there has been no need to enforce the agreed Memoranda. On 17 July 2020, ESMA, the FCA and the Member States’ supervisory authorities confirmed that the Multilateral Memoranda of Understanding will start to apply after the end of the transition period, i.e. as of 1 January 2021, when the UK will withdraw from the EU.

Investment firms

At the end of the transition period, i.e. as of 1 January 2021, UK investment firms will no longer be able to directly provide investment services to retail and professional clients in the Republic of Croatia. Should they wish to continue providing their services in the Republic of Croatia, they:

will have to open a branch, subject to Hanfa’s authorisation pursuant to the Capital Market Act, or
may provide such services at the exclusive initiative of the client.

This means that the advertising and offering of services in the Republic of Croatia at the initiative of the firm are, in principle, prohibited.

Branches of UK investment firms in the Republic of Croatia will have to either stop operating or obtain Hanfa’s authorisation to operate as a third-country branch and thus become a regulated entity in the Republic of Croatia.

In order to be able to provide services directly to institutional investors in the Republic of Croatia, UK investment firms will have to be entered in the third-country investment firm register, kept by the European Securities and Markets Authority (ESMA), and will have to meet the requirements referred to in Article 46 of Regulation (EU) No 600/2014 on markets in financial instruments (MiFIR). This regime has recently changed, enhancing ESMA’s powers over third country investment firms. More details on this issue are available in the ESMA Report. As a consequence, institutional investors in the Republic of Croatia will also need to update the arrangements they have with UK firms.

Croatian firms providing investment services and intending to provide them in the UK are invited to visit the website of the UK’s Financial Conduct Authority, that has published information related to the Temporary Permissions Regime.

REPORTING AND PROVISION OF INFORMATION

The end of the transition period will also have a significant impact on reporting and databases managed by ESMA, primarily those related to MiFID2/MiFIR, FIRDS, TREM, DVC and SI calculations, with respect to which recalculations will have to be made within a certain period of time following Brexit. More information is available via the following links:

After having analysed regulations of the UK as a third country, Croatian depositaries and custodians that provide depositary or custodianship services to their clients (e.g. investment and pension funds), and have delegated custodianship services to third parties established in the UK, need to present the risks to their clients and implement appropriate safeguards, especially regarding the treatment of financial instruments in the event of third party insolvency.

Croatian investment firms and UK firms that have carried out the notification procedure needed to provide services in the Republic of Croatia are obliged to provide their clients with full, accurate and timely disclosure of the impact of Brexit, as described in the ESMA public statement Reminder to firms on their MiFID obligations on disclosure of information to clients in the context of the UK withdrawing from the EU.

The European Commission has published a notice to stakeholders on the impact of the UK’ s withdrawal from the EU in the area of investment services, advising investment firms to carefully assess the consequences of the end of the transition period and take appropriate action, such as ensuring that the necessary authorisations are in place and that the necessary actions for any relocation, corporate reorganisation or contractual adaptations have been taken.

Funds

As regards investment funds and investment fund management companies, the end of the transition period will mean that the notification procedure they have carried out is no longer valid and all funds (UCITS, AIF, EuVECA, EuSEF, ELTIF, IMF) from the UK will become non-EU AIFs and will be able to, potentially, be offered to investors in the Republic of Croatia only through the so-called national private placement regime (NPPR). However, the Alternative Investment Funds Act did not transpose Articles 36 and 42 of Directive 2011/61/EU on Alternative Investment Fund Managers (AIFMD), which regulate the national private placement regime, enabling Member States to allow authorised EU AIFMs to market the units of AIFs from the third country they manage without a passport in their territory, i.e. to allow AIFMs from third countries to market units of funds they manage without a passport in their territory.

This means that after 1 January 2021 it will not be possible to market units of AIFs from the UK or units of AIFs managed by AIFMs from the UK in the territory of the Republic of Croatia. In addition, UCITS offered at the moment via the EU passport will be considered as non-EU AIFs and their distribution will no longer be allowed.

UK AIFs will be able to be distributed in the Republic of Croatia once the passport regime referred to in the AIFMD starts to be applied at the EU level. This regime has been laid down in Article 35 and Articles 37 to 41 of the AIFMD (transposed into the Croatian Alternative Investment Fund Act) and it allows non-EU AIFMs to carry out their activities in the territory of EU Member States on the basis of authorisation obtained from the competent authority of their Member State of reference. This means that a non-EU AIFM may select one of the EU Member States whose competent authority will be the competent authority of the non-EU AIMF, and this Member State will actually become the “home Member State” of the non-EU AIFM. This passport regime does not apply at the EU level yet. Article 67(6) of the AIFMD lays down the obligation for the European Commission to adopt a delegated act specifying the date when Article 35 and Articles 37 to 41 of the AIFMD become applicable, i.e. the date as of which the EU passport will apply to non-EU AIFMs and AIFs in the territory of the EU.

Croatian fund managers wishing to distribute, post Brexit, funds in the UK in respect of which they have already carried out the necessary notification procedure are obliged to inform thereof the UK competent authority - Financial Conduct Authority (FCA) in accordance with the instructions available here. Furthermore, as regards Croatian AIFMs that wish to manage UK funds, the FCA has published information relating to the Temporary Permissions Regime, enabling AIFMs that have conducted business in the UK using the passport to continue with their activities in the UK after Brexit.

Croatian investment and pension funds, including all other institutional investors that make investments in UK financial instruments (which will become investments in a third country after the UK withdraws from the EU) must take into account the new legal framework applicable to their investments. Management companies should also prepare investor information models regarding any possible consequences of the occurrence of the aforementioned scenario in relation to investment strategies of certain funds.

After having analysed regulations of the UK as a third country, Croatian depositaries and custodians who provide depositary and custodianship services to their clients (e.g. investment and pension funds) and have delegated custodianship services to third parties established in the UK should present the risks to their clients and implement appropriate safeguards, especially regarding the treatment of financial instruments in the event of third party insolvency.

In its Notice to stakeholders - Withdrawal of the United Kingdom and EU rules in the field of asset management published on 7 July 2020, the European Commission advises UCITS management companies and Alternative Investment Fund managers (AIFMs) to assess the consequences of the end of the transition period and take appropriate action, such as obtaining an authorisation to manage non-EU AIFs, informing investors of the consequences of the end of the transition period and reviewing, when appropriate, the delegation of certain operational functions to providers established in the UK. Following the change of legal status of the UK funds, investors should check the modification of eligibility of their investments. All relevant stakeholders are encouraged to take advantage of the time until 31 December 2020 to ensure that they have taken all the necessary actions to prepare for the end of the transition period.

Via its Notice to stakeholders - Withdrawal of the United Kingdom and EU rules in the field of institutions for occupational retirement provision, of 14 July 2020, the European Commission advises institutions for occupational retirement provision to assess the consequences of the end of the transition period, duly inform their EU members and beneficiaries, and take appropriate action in a timely fashion, which could include the transfer of activities to the EU.

Insurance

After the end of the transition period, entities from the UK insurance sector will lose their authorisation to conduct insurance activities / reinsurance activities / insurance distribution in the EU Member States. Therefore, in the Republic of Croatia, the provisions of the Insurance Act referring to entities from third countries will apply to insurance sector entities from the UK.

This means that insurance/reinsurance companies from the UK will be able to provide their services in the territory of the Republic of Croatia exclusively through a branch or under the right of establishment (Article 78 and Article 83(1) of the Insurance Act). Exceptionally, reinsurance companies from the UK will be able to conduct reinsurance business in the territory of RH under the freedom to provide services if the solvency regime of the UK as a third country is established by the European Commission in accordance with Regulation (EU) No 2015/35 supplementing the Solvency II Directive and other European Commission regulations governing the equivalence of third-country reinsurance undertakings, equivalent to the solvency regime as defined by the Insurance Act (Article 83(3)). More information is available in EIOPA’s Opinion on the solvency position of insurance and reinsurance underatkings in light of the withdrawal of the United Kingdom from the European Union.

UK-based insurance distributors will no longer be authorised to provide insurance distribution services in Croatia, upon the UK leaving the EU, since the Insurance Act does not offer such a possibility to third-country distributors.

Croatian insurance companies authorised to directly provide insurance services in the UK and insurance/reinsurance companies from the UK authorised to directly provide insurance services in the territory of the Republic of Croatia are obliged to inform their clients in a timely, accurate and comprehensive manner of the changes caused by the UK withdrawal from the EU.

It is important to note that insurance policyholders / insured persons / beneficiaries under insurance/reinsurance contracts concluded with insurance companies from the UK could face potential risks in relation to the fulfilment of claims under existing insurance/reinsurance contracts, should these companies lose authorisation to conduct business in the EU area, except for those who set up a branch in Croatia upon the withdrawal from the EU. We are therefore advising persons who have concluded contracts with insurance companies from the UK to contact these companies and their supervisory authority (the Bank of England) regarding the necessary steps to ensure the continuity of services and fulfilment of obligations of insurers under these insurance contracts.

Hanfa refers to:

We also refer to the Notice to stakeholders - Withdrawal of the United Kingdom and EU rules in the field of insurance/reinsurance, in which the European Commission advises service providers in the field of insurance and reinsurance services and insurance distribution to assess the consequences of the end of the transition period, duly inform their EU customers, and take appropriate action in a timely fashion, which could include the transfer of contracts and/or activities to the EU.

Below are Hanfa's supervisory expectations that have been communicated to UK companies that did not transfer portfolios to EU companies:

In order to meet the purpose of protecting the interests of insured persons, policyholders, beneficiaries under insurance contracts and public interest and to contribute to the stability of the financial system and promote and maintain confidence in the insurance market, it is expected that the withdrawal of the UK from the EU will not affect the validity of insurance contracts concluded by policyholders during the transition period or earlier with UK insurance companies whose risk is located in the territory of the Republic of Croatia. In accordance with EIOPA Recommendations for the insurance sector in light of the United Kingdom withdrawing from the European Union (BOS-19/040), Hanfa is of the opinion that the treatment of such contracts should be comparable to the treatment of insurance contracts of an insurance company with its registered office in Croatia in the process of run-off, and that the fulfilment of obligations under such contracts would not be considered as unauthorised provision of insurance services within the meaning of the Insurance Act. However, Hanfa expects UK insurance companies to carry out, as much as possible, transfers of portfolios of such contracts to insurance companies or branches having their registered office in the EU27 (companies from a group or other insurance companies) for the maximum protection of insured persons. To this end, Hanfa is calling on UK insurance undertakings which have insurance companies or branches having their registered office in EU27 as part of their groups to ensure that policyholders are offered a transfer of their insurance contracts, and to inform policyholders of any possible consequences that UK withdrawal from the EU may have in relation to their insurance contract, or if the withdrawal of the UK from the EU would have an impact on the exercise of rights and obligations under their insurance contracts, so that policyholders can make an informed decision.
For those companies that do not have such a possibility, Hanfa stresses that if the insurance contract is terminated or amended, the provisions of the insurance contract or the corresponding insurance terms and conditions apply, if they are not contrary to positive regulations. This does not exclude the right of a contracting party to terminate the contract due to substantially changed circumstances, and the contractual provisions of an insurance contract may not be amended without the agreement of contracting parties.
UK insurance companies providing insurance services in the territory of the Republic of Croatia, i.e. which have concluded insurance contracts with the risk in the territory of Croatia, are expected to fulfil their contractual obligations in a smooth manner in accordance with the relevant law applicable to a specific insurance contract. Within its scope of competence, Hanfa will carry out activities aimed at protecting the rights of policyholders, applying the principle of proportionality and risk-based supervisory authorities, in cooperation with other competent EU27 supervisors, as well as on the basis of cooperation agreements with relevant UK bodies, in order to enable the smooth provision of insurance services under insurance contracts concluded before the UK withdrawal from the EU.
Within its scope of competence, Hanfa will carry out supervisory activities in cooperation with other competent EU27 supervisory authorities, as well as on the basis of cooperation agreements with relevant UK bodies, in order to ensure that insurance companies from the UK, after the UK has withdrawn from the EU, do not conclude new insurance contracts with the risk in the territory of the Republic of Croatia, contrary to the positive regulations applicable in the territory of Croatia.

Market infrastructure, reporting and credit rating agencies

On 21 September 2020, the European Commission adopted the Decision on the equivalence of UK regulatory framework on central counterparties (CCPs) which will apply after the end of the transition period, from 1 January 2021 to 30 June 2022. On the basis of this decision, ESMA announced that it would recognise three CCPs from the UK as third country CCPs (TC-CCPs) eligible to provide their services in the EU. In this regard, there should be no immediate disruption on the derivatives market. However, entities from the Republic of Croatia that indirectly use services of British CCPs should prepare alternative arrangements after the expiration of the transitional period.

The European Commission and ESMA previously issued decisions in relation to British central securities depositories (CSD) for the period of 24 months after Brexit (ESMA to recognise the UK Central Securities Depository in the event of a no-deal Brexit). However, since the equivalence decision adopted by the Commission concerned only the no-deal Brexit scenario (in the absence of the Withdrawal Agreement ratified by the European Parliament on 29 January 2020), this decision is no longer valid, nor is ESMA's decision to recognise the UK CSDs.

As regards EU CSDs and CCPs that provide or intend to provide services in the UK, the Bank of England has issued statements in connection with the use of the UK Temporary Permissions Regime (Information on the effect of the UK's withdrawal from the EU on FMI supervision).

According to the information currently available, Croatian participants, within the meaning of the Settlement Finality Directive (SFD), do not participate in the UK settlement systems. Nonetheless, the Croatian settlement system may enter the UK temporary regime if necessary to ensure business continuity. This means that a central securities depository (CSD) with its registered office in the Republic of Croatia, as a settlement system, should be notified with the Bank of England if:

there are participants in the Croatian settlement system with their registered office in the UK
there are indirect participants in the Croatian settlement system with their registered office in the UK.

Furthermore, ESMA issued statements on the manner of reporting under the EMIR Regulation and the SFTR Regulation, as well as on other issues relevant to trade repositories after the end of the transitional period; Public statement on issues affecting EMIR and SFTR reporting In addition, ESMA issued two statements clarifying how the UK data will be handled after the end of the transition period, and how ESMA plans to adapt its databases (FIRDS, FITRS, DVCAP, transaction reporting systems and ESMA registers). Both statements are available here.

Croatian entities that use services of the UK approved publication arrangement (APA) to publish data on OTC transactions under an obligation from the MiFIR Regulation will no longer be able to use the services of such entities, unless they are relocated to one of the EU27 Member States. Furthermore, the UK trade repositories (TRs) will lose their existing license and become third-country TRs which must apply to ESMA for the recognition process. Only after completion of this process it will be possible to fulfil the reporting obligations under EMIR and SFTR through them.

Credit rating agencies (CRAs) from the UK will lose their passport, and their credit quality assessments will no longer be able to be used until the EU adopts a decision on equivalence regarding the UK legal and supervisory framework on CRAs, except in cases where a British credit agency is part of an EU credit rating agency group and its rating is confirmed by that EU CRA. Therefore, prospectuses of issuers containing a credit rating issued by a British credit rating agency must indicate that such rating was not issued by a regulated EU credit rating agency.

In addition to equivalence, endorsement is one of the mechanisms provided for in Regulation No 1060/2009 of the European Parliament and of the Council of 16 September 2009 on credit rating agencies (CRA Regulation), enabling the use of credit ratings issued in a third country for regulatory purposes in the EU. In order for the UK legal and supervisory framework to meet the conditions for endorsement, it must meet certain standards. In March 2019, ESMA announced that it had completed the assessment of the legal and supervisory framework for CRAs provided for in the UK statutory instrument 266 of 13 February 2019. ESMA concluded that the foreseen UK legal and supervisory framework for CRAs met the conditions for endorsement. ESMA is satisfied that it will fully enter into force after the end of the transition period without amendments, and that the requirement of the endorsement regime can be considered as being met. Another condition for endorsement is the cooperation between ESMA and the British supervisory authority (Financial Conduct Authority) which was met by signing the Memorandum of understanding concerning the exchange of information in relation to the supervision of CRAs and TRs, which will also take effect after the end of the transition period.

With respect to such entities, ESMA has issued the following statement: Contingency plans of Credit Rating Agencies and Trade Repositories in the context of the United Kingdom withdrawing from the European Union, and some UK entities have already relocated to other EU27 Member States (example).

On 27 October 2020, ESMA issued a statement confirming that the EU credit rating agencies will be able to endorse UK credit ratings after the end of the transition period. As of today, all UK CRAs, except the Economist Intelligence Unit, have taken necessary steps in order to ensure endorsement by the EU CRAs.

For Croatian entities that provide these services and intend to provide them in the UK, the Financial Conduct Authority has published information related to the Temporary Permissions Regime.

On 7 and 14 July 2020, the Commission published information on the effects of the UK withdrawal on rules governing market infrastructure and credit rating agencies, warning of the possibility of the transition period expiring without reaching an agreement on a new EU-UK partnership.

The Commission advises counterparties to derivatives and securities financing transactions, as well as stakeholders issuing financial instruments constituted under the law of a Member State in UK Central Securities Depositories (CSDs), to assess the consequences of the end of the transition period and take appropriate action to ensure that they comply with all the applicable legal requirements.

In addition, financial market participants are advised to assess the consequences of the end of the transition period, and take appropriate action, including where needed registration in the EU and the issue of credit ratings in the EU.

Hanfa's public statements

Brexit, 1.4.2019.
No-deal Brexit postponed until end-October, 15.4.2019.
European Commission on Brexit: Finalising preparations for the withdrawal of the United Kingdom from the European Union on 1 November 2019, 13.9.2019.
ESMA – Updated information on the United Kingdom's withdrawal from the EU – preparations for a possible no-deal Brexit scenario on 31 October 2019, 11.10.2019.
Brexit – news update, 4.2.2020.
Changes in Hanfa's registers due to Brexit, 29.12.2020.

Public statements and opinions published by European competent authorities

European Securities and Markets Authority (ESMA) and European Insurance and Occupational Pensions Authority (EIOPA), as well as other relevant competent authorities have issued opinions in relation to the preparation of financial institutions to the withdrawal of United Kingdom from the European Union. Hanfa refers its supervised entities and users of their services to consult these opinions and statements:

ESMA

EIOPA

The impact of Brexit on the capital market

Investment firms

Funds

Insurance

Market infrastructure, reporting and credit rating agencies

Hanfa's public statements

Public statements and opinions published by European competent authorities

ESMA

European Commission

Bank of England & Financial Conduct Authority (FCA)

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