Lawyers and fund boards were among the busiest participants of Europe’s ETF industry in 2024 with several key rule changes, regulatory updates and consultations running concurrently throughout the year.
Legal developments involving the ETF industry generally reflect wider policy aims and objectives, such as strengthening European capital markets, attracting broader retail participation in investing and financing the green transition. All of these processes, however, have been made more complicated by Brexit as the UK’s departure from the EU has resulted in differences affecting new investment regulations, adding to the burden on financial markets participants. Regulators efforts to chart a consistent course are further complicated by political changes, such as the election of a new UK government and Donald Trump’s imminent return to the White House, which bring fresh priorities into policy development considerations.
What follows is a snapshot of the current state of play involving key ETF regulatory developments rather than a blow-by-blow account of their development.
Consolidated tape progress
The EU confirmed that it would begin the selection process for providers of a Consolidated Tape in June 2025 with a successful applicant expected to be named before the end of next year. The establishment of a consolidated tape – a complete real time record of securities trading in Europe – is a long awaited development which is widely seen as key to improving the pricing efficiency and liquidity of European capital markets. Several firms have put themselves forward as potential providers in the UK and the EU. For stock trading, EuroCTP - a conglomerate backed by 14 different European Exchanges - and a joint venture between Cboe and Aquis Europe have emerged as the main two contenders. For fixed income trading, Etrading Software, Finbourne alongside Propellant and TransFICC have all expressed interest in running the bond consolidated tape.
Europe's T+1 timeline
The European Securities and Markets Authority (ESMA) has recommended that the time permitted to settle financial transactions on securities trading venues in Europe should be shorten from two days to just one day - T+1 - from the fourth quarter of 2027. The aim is to improve the efficiency of Europe’s capital markets and it would in effect level the playing field between the EU and US where a similar change was put in place in May. Misalignments involving settlement processes appear to have caused some problems, including a curious “Thursday effect” that has increased trading costs for some European-listed ETFs that invest in US stocks. “In reality this has not been as bad as feared. ETF spreads on global and US focused exposures have only increased by less than half a basis point on average following the transition [in the US to T+1 in May]” said Ben O’Dwyer, ETF global capital markets specialist at State Street Global Advisors in London. Nevertherless, the “Thursday effect” has registered with ESMA which will keep a watch on any developments involving this apparent anomaly until T+1 comes into force. ETF industry participants are also waiting to see if the Brussels and London can agree a single day to fix on the move to T+1 settlement, a highly desirable objective for all parties involved. The UK has a deadline of December 2027 for its transition to T+1.
Penalties for settlement failures
ESMA is concerned that settlement failures in Europe are too widespread and opened a consultation process at the start of 2024 with an eye to increasing penalty payments for trades that are not concluded within the appropriate time frame. The Paris-based regulator noted that settlement failures were “very high” for ETFs compared with other asset classes, such as sovereign bonds. Around one in five ETF settlement instructions in Europe fail, accounting for 15% of the value of settlement instructions. ETF industry participants argued that fragmentation across Europe’s capital markets contributes to settlement difficulties and that any increase in penalty payments would be passed on as higher trading costs to end investors. ESMA appears to have listened to these appeals and decided in November to impose a relatively lenient increase in the penalty for settlement failures, up from 0.5 basis points (bps) per day to 0.75bps.
CBI streamlines ESG fund naming
The Central Bank of Ireland (CBI), one of the European ETF industry’s most important regulators, said in November that it would streamline the filing process to help asset managers comply more efficiently with new European ESG fund naming rules. The CBI said that managers would be allowed to make “minor changes” to disclosures made in fund offer documents where such alterations were solely for the purpose of bringing a fund into compliance with the ESG fund naming rules which came into effect in November. These rules – published in May – state that ETFs using the term “ESG” or “sustainable” in their name must have at least 80% of investments tied to environmental or social characteristics. Germany’s national financial regulator BaFin started to apply the ESG fund naming rules in July, moving earlier than expected in an effort to encourage a more level playing field for EU funds. The broader aim of these fund naming rules is to combat “greenwashing” where product providers make unjustified environmental claims and also to help investors make better informed decisions when buying a strategy or fund that is branded as ESG or sustainable.
UK SDR delays
The UK Financial Conduct Authority (FCA) in September decided it would provide investment managers with more time to comply with new rules covering the naming and marketing of funds as part of the Sustainability Disclosure Requirements (SDR) regime. The UK’s SDR regime is also intended to combat “greenwashing” and to help retail investors make better choices, part of a push by the UK regulator to bolster interest in ESG and sustainable strategies that can help to fight climate change. The new naming and marketing rules came into force at the start of December but the FCA will allow “limited temporary flexibility” until 2 April 2025 for firms to comply. Fund selectors that attended ETF Stream's ESG ETF workshop in October were unanimous in welcoming the additional time allowed by the FCA to meet the requirements. More time was both “necessary and beneficial,” said Paul Dennis, investment director at Holden and Partners.
UK's post-Brexit fund regime moves into action
Asset managers that have domiciled ETFs and other funds in Europe have had to rely on a temporary permissions regime that was established post Brexit in order to continue to sell their products to UK investors.
This temporary arrangement will now gradually be replaced by the introduction of the UK’s new Overseas Fund Regime (OFR) at the end of September. The OFR provides an important new gateway for investment funds - excluding money market funds - established in Europe to be marketed to UK investors.
More than 600 ETFs have been admitted to trading in London with most of these funds currently relying on the post-Brexit temporary permissions regime to continue operating.
ETF providers and other asset managers that rely on the temporary permissions regime will now have to apply for OFR approval, a process that will remain open until September 2026. Early feedback about the early stages of the OFR application process has been positive.
“While the FCA has up to two months to approve a new scheme, some approvals have been completed in as little as a week,” said Peter Capper, senior adviser for international fund regulation at The Investment Association.
CBI opens door for more asset managers to enter European ETFs
The CBI announced in September that it would allow ETF share classes to be established within existing Irish domiciled mutual funds. The effect is to open a new door to asset managers that are already running mutual funds to enter Europe’s fast growing ETF industry. The change announced in September removes the previous Irish requirement for asset managers to rename an entire sub-fund to include the “UCITS ETF” moniker if they launched an ETF share class. This stipulation by the CBI applied even if most of a fund’s share classes were unlisted and housed the lion’s share of assets under management. So asset managers will no longer have to make potentially confusing changes to fund names or to consider establishing a parallel ETF platform alongside their mutual fund range. The changes will also bring Irish domiciled funds into line with the naming convention used by Luxembourg’s financial regulator, another key supervisor for Europe’s ETF industry. Stephanie Hanrahan, senior associate at the lawyers Arthur Cox in Dublin, described the decision to align Ireland’s fund naming approach with other European jurisdictions as a “very positive” development.
More oversight of ETF market makers and APs required
The Central Bank of Ireland (CBI) in December instructed asset managers to improve their oversight and reporting of ETF market makers and authorised participants (APs) after the regulator concluded that there was “very little evidence” that risks arising from the activities of these key industry players were being monitored appropriately. The CBI regulator noted in a “Dear Chair” letter to the heads of investment companies that domicile ETFs in Ireland that due diligence, ongoing monitoring and board oversight of ETF market makers and APs were all functions that required improvements. The regulator also warned the concentration of ETF creation and redemption activity among a small coterie of market makers and APs could pose risks to pricing and liquidity and even for investor access to ETF trading if disruptions were to arise in the market. The International Monetary Fund in 2022 said the CBI should encourage ETF issuers to use a greater range of liquidity providers to ensure these relationships continued to function efficiently in periods of elevated market stress, such as during the early stages of the COVID-19 pandemic in 2020. Brian Higgins, partner at the law firm Dillon Eustace, said that the CBI wanted ETF sponsors to use open architecture to promote competition and to avoid purely exclusive arrangements with market makers or APs.
Crypto ETNs given green light for LSE listing
Regulators in Europe have undoubtedly taken note of the multi-billion dollar inflows gathered so far this year by US listed crypto ETFs and the positive support signals for digital currencies by the incoming Trump administration. The London Stock Exchange announced in March that it would permit applications to list bitcoin and ethereum exchange traded notes ETNs following permission by the FCA for these products to be distributed in the UK. WisdomTree, Zurich-based 21Shares and Invesco have since launched crypto ETNs on the LSE. The FCA has said that applications will be assessed on a case-by-case basis but more launches appear likely in 2025 with Bitcoin trading at an all-time and other crypto currencies also seeing very significant price gains high following Donald Trump’s victory in the US presidential election.