Pension funds were granted a (temporary) exemption from the obligation to clear their derivatives trades, but the European Market Infrastructure Regulation (EMIR) did not relieve them of the duty to report even uncleared trades to a trade repository. However, the exemption from clearing lulled some pension funds into believing they did not have to report from 12 February 2014 either.
Like corporates, pension funds use swaps not to speculate or add leverage, but to hedge interest and exchange rate risk as well as specific retirement fund risks such as inflation and longevity. Swaps are also used to support voguish liability driven investment strategies. Even if they do not use swaps directly, smaller pension plans are exposed to them via pooled funds.
Given this background, it is not surprising pension funds fully expected their fund managers and custodian banks to take on the onerous duty of reporting derivatives on their behalf. They anticipated their own involvement would be confined to re-writing parts of the documentation of their investment management and custody agreements, and to obtaining a Legal Entity Identifier (LEI) for their fund.
“The first manager to contact us about this was an American firm regulated under the Dodd-Frank,” says David Shaw, manager of pension investments at the BBC. “At the time that they approached us we went out and obtained a CICI (CFTC Interim Compliant Identifier), which acts as a pre-LEI, meaning that it will become an LEI and we can use it across our reporting requirements.” But the LEI is not the only area in which pension funds chose to rely on their fund managers in the run-up to the reporting deadline of 12 February 2014.
Of course pension funds understood they cannot delegate responsibility for getting derivative reporting right, but they were supremely confident that their fund managers were well-prepared. “We have agreements in place with our fund managers,” explains David Shaw. “We were actually approached by them about this. The larger fund managers were the quicker to react, but we are in a position where this was virtually all sorted comfortably in advance of the mandate going live.”
The confidence of the BBC was echoed elsewhere. “All of our investments are handled externally and our fund managers have agreed to report for us,” says Tom Morrison, manager of the North Yorkshire pension fund. “One of our managers brought up the subject of trade reporting at the end of last year and we made sure that we got an LEI and shared it with our other fund managers. As the managers place the trades and conduct the hedging activity on our behalf, this seemed the only sensible solution. We also had a number of approaches from organisations offering a reporting service.”
Pension funds are equally content to outsource the details. “The decision of which trade repository that our data is reported into is left at the discretion of our asset managers,” adds Tom Morrison, while David Shaw says “we have no objection to working with any of the trade repositories.”The degree of trust invested in fund managers is certainly high. “We are also not expecting to hear from our asset managers as regards the progress of our reporting,” explains Tom Morrison. “The managers will do what is necessary for our compliance with this mandate and we are only expecting communication with them on this, outside of our regular, scheduled meetings, in the event that an issue has arisen.” David Shaw agrees. “We meet with our fund managers on a regular basis and discuss what trade reporting has been done,” he says. “We are not expecting much in the way of further reporting from them as regards trade reporting.”
In fact, every pension fund approached by The COOConnect Guide to Derivative Reporting in Europe on this topic confirmed that they have not sought any involvement in trade reporting under EMIR, but have instead entrusted their fund managers with the work. This willingness to trust the skills and experience of third parties is characteristic of the pension fund industry and, for good or ill, reflects how their derivative positions and transactions are actually acquired, processed and controlled. Until something goes wrong, the totally outsourced solution enables pension funds to claim to be one of the best prepared sectors for the EMIR trade reporting mandate.