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What does Brexit mean for financial markets?

What does Brexit mean for financial markets?

The day after the Brexit referendum highlighted just how important a functioning market infrastructure really is.

24 June 2016, the day after the UK’s historic Brexit referendum, saw Europe’s financial market legislation and supervisory framework severely tested. Trading that day was characterised by phenomenally high volatility and an extraordinarily high number of margin calls. About 2 trillion USD was wiped off the value of global stock markets in market conditions that were more turbulent than the notorious stock market crash of ‘Black Monday’ in October 1987.

Fig. 1:  Performance of German benchmark index DAX® in index points and trading volume on Xetra® in € millions.

European market infrastructures and the legislative frameworks which regulate them, proved resilient and robust in the face of this extreme turbulence. Market safeguards, such as volatility interruptions and risk management by central counterparties, functioned exactly as designed at Deutsche Börse, ensuring financial markets continued to work smoothly and transparently despite the enormous volatility.

While Deutsche Börse Group very much regrets the UK’s Brexit decision, it is determined to make the best of the situation for the financial centres concerned and for Europe as a whole. Financial infrastructure providers like Deutsche Börse Group will play an important role during these uncertain times: they provide sound and stable trading and post-trade systems, which will be of invaluable support to clients as they adapt to the new post-Brexit regulatory and market environment.

Alexandra Hachmeister, Chief Regulatory Officer of Deutsche Börse Group, discusses the various Brexit scenarios which are on the table – from “soft” to “hard” and “cliff edge” Brexit.


What does Brexit mean for European financial markets?

EU and UK financial markets are strongly interlinked. The UK financial market currently acts as a wholesale hub for other EU financial centres and accounts for almost 80% of EU financial sector activity as a whole.

An efficient and effective future relationship between the EU and UK remains desirable in order to keep the UK as a partner for a prosperous and competitive Europe. At the same time, it is important for Europe to remain competitive and on a level playing field with the US and Asia. To achieve this, the right regulatory framework is key.

What are the main issues for financial market participants?

EU Passporting

The “passporting” mechanism makes it possible to conduct financial services on a cross-border basis throughout the entire EU, without the need to establish a subsidiary or branch in the individual member states.

Leaving the EU single market means that the UK would be considered a third country, i.e. a non-EU country, and UK-based financial firms would lose their EU passporting rights to conduct financial services on a cross-border basis with EU 27-based clients.

Third-country rules incorporated in EU financial regulations (e.g. MiFID II/MiFIR, EMIR, CSDR) are designed to provide access for non-EU firms to EU financial markets. However, third-country rules are not an adequate substitute for the EU passport, as:

  • not all of the EU’s financial market legislation provides for equivalence regimes and…
  • specific equivalence rights can be withdrawn by the EU Commission at very short notice.

Market participants cannot afford to build their business on such uncertain foundations. Many regulatory processes are time-consuming (e.g. requesting relevant licenses and relocating human resources etc). As a result, some UK-based firms are already reflecting on moving parts of their business to the EU. In this way, they can already have confidence that they can continue to do business across the 27 remaining EU Member States post-Brexit.

What timeline are we looking at?

On 29 March 2017, British Prime Minister Theresa May notified in a letter to the European Council the UK’s intention to leave the EU. This notification started the official withdrawal process under Article 50 of the EU Treaty, triggering a two-year deadline during which the EU and the UK will negotiate the terms of Brexit. This period will end on 29 March 2019. Official Brexit negotiations started on 19 June 2017. Extending the two-year period can only be granted by a unanimous agreement of the remaining EU-27 countries.

Given the very short time available for effective negotiations (only 16 months due to ratification procedures for the withdrawal terms), it is likely that the UK will leave the EU in 2019 without any transitional period or agreement on future cooperation.


Brexit in simple terms