How the new prudential regime will impact EU investment firms notably French

A major step forward has been taken in implementing the European “investment firms” package in France*. The transposition of the package into local legislation, alongside EU Regulation 2019/2033 on prudential requirements for investment firms (IFR), came into full effect on 26 June 2021.

In accordance with the proportionality principle, the IFR and investment firms directive (IFD) aims to establish a specific prudential regime for Investment Firms (IFs) in the EU. IFs were previously subject to bank prudential rules, which were not adequate for the highly diverse and varied IF business models across the EU.

The IFR sets out prudential requirements for IFs: capital, liquidity, concentration, reporting and disclosure. In particular, Class 2 IFs, defined below, will have to compute so-called “K-factors” for the purposes of determining their capital requirements.

Meanwhile, the IFD covers initial capital requirements, the role of competent authorities and their cooperation, Internal Capital/Liquidity Adequacy Assessment Process (ICLAAP), Supervisory Review and Evaluation Process (SREP), and the framework for governance and remuneration. The ordinance transposing IFD comprises four chapters, the first three relating to provisions that amend the French Monetary and Financial Code and the last one covering final provisions. Several decrees and orders will supplement the ordinance’s provisions on key aspects, such as prudential standards, ICAAP, SREP and Pillar 2, risk management, governance and risk committee, as well as systemic indicators.

A differentiated prudential regime

The IFR introduces a differentiated prudential regime based on the characteristics of the IF, including its balance sheet size and the nature of the investment services it provides. In particular article 12 of the IFR sets out specific criteria for small and non-interconnected investment firms or so-called Class 3 IFs, that can be eligible for alleviated requirements. However, IFs meeting the extended definition of credit institution, known as Class 1 IFs,  provided for in the amendment to article 4(1) of the Capital Requirements Regulation (CRR) will have to be authorised to do so under the new article 8b that amends the Capital Requirements Directive (CRD). Except for those latter firms, Class 3 IFs and Class 1bis IFs – a new category introduced by the ordinance – all other IFs will be considered Class 2 IFs.

A new credit and investment institution” status for those Class 1 IFs

IFs with total assets exceeding €30bn that provide proprietary trading or underwriting/guaranteed investment services will have to apply for a banking licence and, particularly in France, for the new “credit and investment institution” status (ECI). Given their systemic nature and their activities, they should be under the direct supervision of the ECB. Accordingly, applications for licences must be submitted to the national competent authority (NCA) of the country in which the institution is located and, pending the granting of the licence, the institution should continue its activities under its existing authorisations. Documentation such as regulatory capital, business plan, financial projections, operating model, governance, internal control and risk management arrangements will be required in accordance with ECB guidelines for the assessment of licence applications.

Additionally, an EBA draft Regulatory Technical Standards (RTS), which specifies how the €30bn criterion should be determined, is currently in preparation. As this draft RTS has not yet been finalised, the EBA recommends that NCAs adopt pragmatic approaches to IFs potentially affected by the new credit institution status. The IFR also specifies that an institution that would be below the €30bn threshold but is part of a group whose investment activities exceed that threshold, must also apply for a credit institution licence at its level. Finally, as they will be under ECB direct supervision, these new credit institutions will be subject to an asset quality review (AQR) and to CRR-CRD banking rules.

Clarification of category classification

The ordinance clarifies which firms should be categorised as Class 1bis IFs and indirectly provides clarification for determining Class 2 IFs, namely those with total assets in excess of €15bn but which do not qualify as Class 1 IFs. Although they are IFs, Class 1bis IFs will remain subject to the CRR-CRD banking rules. The ACPR will also have the power to include certain IFs in this category up to a threshold of €5bn in total assets, taking into account the importance of the IF for its domestic economy, its cross-border activities or interconnection with the financial system. In addition, regardless of size, any subsidiary of a banking group will be able to opt for the 1bis classification to continue applying CRR-CRD and enable proper monitoring of prudential requirements on a consolidated basis. Finally, IFR and IFD will only fully affect Class 2 IFs, as well as Class 3 IFs from an alleviated perspective.

* June 2021 Official Journal Ordinance n° 2021-796 transposing EU Directive 2019/2034 on the prudential supervision of investment firms.