International task force proposes new high level principles for financial benchmarks

The International Organisation of Securities Commissions (IOSCO) is now consulting on the draft (42-page / 447KB PDF). It intends that the principles will apply to all "reference rates, indices and prices" that are used to calculate the value of stocks, bonds and other financial instruments. It is particularly seeking views on more detailed principles for those benchmarks subject to "specific risks arising from their reliance on submissions and/or their ownership structure".

IOSCO sets standards for the regulation of securities markets around the world. Its Task Force on Financial Market Benchmarks was set up in September 2012, and is co-chaired by Martin Wheatley, the chief executive of the UK's Financial Conduct Authority (FCA). Wheatley led a Government-commissioned review into the process by which the London Interbank Offered Rate (LIBOR) reference interest rate was set, following allegations of rate fixing by international banks.

"Benchmarks play a vital role in the confidence and integrity of financial markets," Wheatley said. "The Principles are a key step in enhancing the oversight and quality of benchmarks. The FCA's leading role in developing the Principles reflects the priorities set out in our new wholesale conduct strategy by ensuring that participants in financial markets have the means of assessing the quality of their contribution and the quality of the benchmark they use."

"Through IOSCO, the FCA will continue to work closely with the European and international community to establish clear standards for effective global benchmarks. Once agreed, the Principles will be reflected in future reviews or additional supervisory activity of benchmarks undertaken by the FCA," he said.

The principles are intended to be used as guidelines by benchmark administrators, national regulators and other relevant bodies. They set out the roles and responsibilities of administrators and contributors, accountability mechanisms and complaints procedures. They include guidelines on establishing benchmark quality, including design, input and periodic review processes. The way the principles are applied should be proportional to the size and risks posed by each benchmark setting process, which may or may not include regulatory action.

Among the conclusions reached by IOSCO is that data used to construct a benchmark should be "anchored by observable transactions entered into at arm's length between buyers and sellers" in the relevant market. The use of real-time transaction data, rather than estimates, should "provide a level of confidence" that the benchmark is "credible", IOSCO said. Non-transactional data, such as bids or offers, may still be used "as an adjunct or supplement to transactional data", or used where the relevant index is "not designed to represent transactions", it said.

"To promote market integrity, it is critical that benchmark interest rates be anchored in observable transactions and supported by appropriate governance structures," said Gary Gensler, co-chair of the IOSCO task force and head of US regulator the Commodity Futures Trading Commission (CFTC).

"Given what the world has learned about LIBOR, EURIBOR and similar rates, I am pleased that the IOSCO proposed principles include both of these essential elements," he said.

The UK is currently undergoing fundamental reform of how LIBOR, a daily reference rate based on the interest rate at which banks can borrow unsecured funds from other banks, is administered and set. In his independent review, published last July, Wheatley recommended that administering and contributing to LIBOR should become regulated activities, while criminal sanctions should be introduced for making "misleading statements" in relation to benchmarks. The Government later accepted Wheatley's recommendations in full.

Benchmarks have historically not been subject to direct regulatory oversight. As a result of concerns over the fragility and integrity of certain benchmarks following various international investigations and enforcement actions, a number of regulators and industry bodies have begun programmes for reform. These include the Bank for International Settlements (BIS) and European financial supervisors the European Securities and Markets Authority (ESMA) and European Banking Authority (EBA), as well as the FCA and CFTC.