PD3 will have a significant impact on structured product industry

23 August 2017 Consultancy.uk

While many will still recall the pain of “PD2” implementation in 2012, the European Union (EU) has announced a new Prospectus Regulation that will repeal and replace the existing Directive, becoming fully effective in 2019. Despite taking the form of a Regulation rather than a Directive, this new Regulation is commonly being referred to as ‘PD3’. Sarah Natt from Delta Capita discusses what the PD3 changes mean, and why there has never been a more pressing time to act in the Consultation process. 

What do the changes mean?

Without a doubt, the changes introduced in the new Regulation will mean a significant amount of thought, discussion and work for structured product issuers and their advisors, so that they ensure their issuance prospectuses and programs are compliant with the new requirements. While some of the changes appear to help issuers, others may be of limited use unless accompanied by other industry developments.

Some of the changes will present significant challenges. The approach to risk disclosure in the prospectus is a classic case in point. The Regulation prescribes that risk factors will be presented across a limited number of categories and be set out in order of materiality, based on their probability of occurrence and the expected magnitude of their impact.

The chapters of risk factors found in the average structured products program typically cover a broad spectrum of events. Insolvency and bail-in, regulatory/taxation changes and market disruption events are just a few examples. These events then need to be ordered in accordance with their materiality, which is likely to involve prolonged debate and difficult decisions. 

It is, of course, possible that the materiality may change dependent on the type of product, the circumstances of the issuer or investor, and the latest regulatory developments. This “ranking” approach is certainly novel within the capital markets industry. Issuers may look to their legal counsel for advice, but will law firms be able to give meaningful guidance or opinions?

PD3 will have a significant impact on structured product issuers and their advisors

The requirement to produce an Issue Specific Summary will remain, although issuers will no longer be required to include a summary in their base prospectus. This makes some sense, but issuers will still need to maintain a live template to enable them to produce the Issue Specific Summary quickly and accurately. 

A new limit also has been placed on the length of the Summary, which could be cut by at least half its current length. As we have seen with the recent PRIIPs KID requirements, limiting the length of issuance documentation presents many challenges in itself. Although the Regulation permits certain required information regarding the securities to be fulfilled by the content of the PRIIPs KID, much more detailed guidance is certainly needed – particularly when it comes to the interaction between these two documents and their prescribed formats, as those still grappling with the overlap and inconsistencies between MiFID II and PRIIPs will be all too familiar with. During the massive PRIIPs implementation projects, issuers may simply not have considered that the KID would eventually be used to replace some of their prospectus content. 

The approach to risk factors in the Issue Specific Summary for a product is even more restrictive, as it includes an arbitrary limit of 15 risks that can be contained in the Summary. This is likely to cause a further headache, as issuers attempt to determine their “top” 15 risks. 

Another significant change within the new Regulation is the ability to take into account whether the securities have a denomination of “at least €100,000 or are to be traded only on a regulated market … to which only qualified investors can have access” when determining the information that is material to an investor. This clarification to the disclosure standard is potentially useful for more complex products sold to a single sophisticated investor, but unless such securities have a high denomination, the requirement is not as helpful as it first appears. This is because there are very few regulated market segments that are restricted to qualified investors. With this in mind, only time will tell whether the exchanges will develop new markets to enable issuers to take full advantage of this change.

Time to Act

The new Prospectus Regulation will clearly bring about some significant and difficult changes. However, despite the current overload of regulatory implementation work within the structured products industry, issuers should not overlook the need to consider these changes to the prospectus regime now. Issuers should be prepared to engage in the debate about how to assess the materiality of risk factors, to ensure the regulators are informed about the challenge this presents and are steered toward giving some form of practical criteria. They did act upon some of the concerns raised by the industry during the PRIIPs consultations, proving that there is willingness to listen to a united industry voice. It is essential that the Level 2 measures and technical standards provide clear and helpful guidance to issuers seeking to update their issuance programs – “PD3” is here and there has never been a more pressing time to act in the Consultation process.


More news on


An 8-step framework for banks to prepare for FRTB changes

02 April 2019 Consultancy.uk

With FRTB expected to come into force in 2022, it is critical that banks implementing necessary changes remain on track for their compliance timelines. Whether a company is aiming for the mandatory Standardised Approach (SA) or the voluntary Internal Models Approach (IMA), the programs often represent a significant investment, requiring process, systems and cultural change. 

Drawing from its experience in helping banks meet the milestone set in their compliance timelines, Capco – a management and technology consultancy for the financial services industry – has developed an eight-point prioritisation framework for FRTB preparation and implementation. Natasha Leigh Giles, a Managing Principal at the consultancy, outlines the main dimensions of the framework: 

Prioritisation framework for FRTB

1. Front office operating model

For those who have already implemented the Volcker rule, the desks are well defined with monitoring and governance frameworks. However, for companies that have not been required to adhere to the U.S. regulation, there may be additional work involved in implementing desk-level controls as required under FRTB. The trading desk structure is especially important for banks planning to implement IMA, as this regime is applied at the desk level and requires that the full flow of the selected desk is able to pass the IMA requirements (including the modelability test for the risk factors). Key business decisions may be required if a desk trades complex products that are more aligned for SA treatment. 

2. Product scope

In order to reach the IMA status, products are required to be supported with additional data sets including historical market and reference data as well as risk factor pricing evidence. The opportunity for 2019 lies in refining the assessment on the feasibility of each product type to ensure a clear scope is agreed for the IMA environment. If the challenges are too complex or costly to overcome, such as access to historical market data, availability of price verification for the risk factors or significant enhancements to support computational capacities, then these products should be scoped out of the IMA program as soon as possible in order to save time and effort on continuing analysis. 

3. Client & trading activities

There is no need to wait until the FRTB implementation timeframe to undertake a holistic review of client and trading profitability – including the capital impacts. For example, running training and awareness campaigns within the front office can help the traders to understand the impacts of their activities and encourage changes in the way that they trade. By considering this holistically as a business and operational change, it can help keep the focus and resources on the primary (profitable) business in preparation for the compliance deadline. 

4. Internal controls

Methodology, reporting, auditability, and process governance for internal controls also need to be monitored in detail. We recommend having clearly defined processes accompanied by effective training across front-to-back office. For some banks, it will be beneficial to audit existing capital adequacy processes to ensure that findings are highlighted in advance of the implementation timeline and the appropriate focus is achieved within senior management.

5. Data & metrics

Financial institutions need to consider their overarching governance and ongoing management for the data (including ownership, quality control, golden source storage solutions, etc.) and the ongoing control framework for ensuring the data remains accurate and relevant for capital adequacy modeling. If there has not been a data lineage exercise already applied, this is a great opportunity to deliver business benefit, even in 2019. By creating agreed definitions, preferred sources, ownership and workflows for managing data quality, the benefits of more accurate data can already be applied to existing capital calculation models. 

Framework for FRTB

6. Model management & validation framework

In preparation for the FRTB regime, an opportunity for 2019 is to understand if there are gaps or control concerns to manage immediately. Model enhancements across SA and IMA will need to be productionized for output accuracy and refinement, however, these need to be maintained alongside existing Basel 2.5 BAU models and other concurrent changes e.g. LIBOR Transition. Business process optimization, testing environments and automation tools, documentation and model validation can all be reviewed for immediate benefits and prepare the process for a smooth implementation of the future FRTB models. 

7. Technology platform & testing environments

With regards to technology planning, the opportunity in 2019 is focusing on gaining agreement of the front-to-back FRTB future state architecture including the use of vendors as applicable. By ensuring a disciplined focus upon design and solution definition across all requirements, it provides a clear baseline for implementation planning and scheduling. Establishing a technology architecture which allows for FRTB data feeds, model enhancements, control definitions and accurate capital calculation outputs will provide the program with essential data and metrics needed for decision making. 

8. Leverging synergies

Once a baseline plan has been established, it is possible to identify synergies across other programs – such as the SA-CCR (Standardized Approach for Counterparty Credit Risk) or the IMM (Internal Models Methodology) – that could deliver overlapping benefits at reduced effort. Understanding requirements, defining the future state architecture, and implementing the change in a complex environment requires a mix of strategic principles and program management. Therefore, we consider it an opportunity for 2019 to take a centralized approach for data lineage and requirements gathering as this would be beneficial for optimizing capital costs across both the market and credit risk environment.


By considering each topic strategically in 2019, benefits such as data quality enhancements, strengthened internal controls and flexible test environments will not only bring immediate business value, but also set a solid foundation for a comprehensive FRTB implementation in the years to come. 

For more information on Capco’s model and the its approach in helping banks plan for FRTB, download the full whitepaper on the firm’s website.