As part of its Digital Finance Package introduced on 24 September 2020, the European Commission proposed a pilot regime for market infrastructures based on distributed ledger technology (DLT). The adopted version was published in the Official Journal on 2 June 2022 as Regulation (EU) 2022/858 (the DLT Pilot Regime) and as of today, applications for authorisation under the DLT Pilot Regime can be submitted.
The DLT Pilot Regime has four general objectives, namely to (i) create legal certainty, (ii) support innovation and promote the uptake of DLT in the trading and post-trading area, (iii) instil consumer and investor protection and market integrity and (iv) ensure financial stability.
DLT and tokenisation
Tokenisation of an asset is essentially a way of securitising the asset, but the transferable securities are issued, recorded, transferred and stored using DLT. DLT allows the operation and use of distributed ledgers, meaning an information repository that keeps records of transactions and that is shared across, and synchronised between, a set of DLT network nodes using a consensus mechanism.
Current European financial services legislation is not particularly favourable to the use of DLT and the issue of digital financial instruments. The DLT Pilot Regime intends to remedy this and pave the way for DLT-based market infrastructures for the trading, custody and settlement of transferable securities.
DLT financial instruments
The DLT Pilot Regime is limited to the following DLT financial instruments:
- shares of issuers with a (tentative) market capitalisation of less than EUR 500 million;
- certain debt instruments such as bonds with an issue size of less than EUR 1 billion;
- shares or units in certain investment funds with assets under management of less than EUR 500 million.
Further, the total aggregate market value of DLT financial instruments admitted to trading or recorded on a DLT market infrastructure may not exceed EUR 6 billion.
Types of DLT market infrastructures
The DLT Pilot Regime creates three types of DLT market infrastructures. A DLT multilateral trading facility (DLT MTF) is an MTF, as defined under MiFID II, that only admits to trading DLT transferable securities. A DLT settlement system (DLT SS) is a settlement system that settles transactions in DLT financial instruments. A DLT trading and settlement system (DLT TSS) is a DLT MTF or DLT SS that combines the services performed by a DLT MTF and a DLT SS. The DLT TSS is noteworthy as no traditional equivalent exists. It is justified by the fact that DLT allows to expedite and combine trading and settlement in near real-time and hence could enable the combination of trading and post-trading services and activities which normally need to be performed by separate entities.
Under a specific permission, a DLT MTF can be operated by authorised investment firms (in Belgium this would be stockbroking firms) or market operators, and a DLT SS can be operated by authorised central securities depositories (CSD). A DLT TSS can be operated by investment firms, market operators and CSDs.
DLT market infrastructures can also be operated by new entrants who apply for a temporary authorisation as an investment firm, a market operator or a CSD together with an application under the DLT Pilot Regime.
Requirements and exemptions for DLTmarket infrastructure operators
Operators of DLT market infrastructures will be subject to additional requirements under the DLT Pilot Regime. At the same time and in order to take into account the particular nature of DLT financial instruments and to stimulate the development of DLT market infrastructures, important exemptions from certain requirements under MiFID II and CSDR can be requested. For example,
- subject to fulfilling certain requirements, natural and legal persons may be granted direct access in order to deal on their own account as DLT market infrastructure participants, thereby derogating from the traditional intermediation obligation with regard to trading venues;
- an exemption from transaction reporting obligations can be granted;
- settlement discipline requirements can be derogated from;
- an exemption from settlement finality requirements can be requested;
- cash settlement could be done via commercial bank accounts provided that delivery versus payment is ensured.
One particularly unique feature of the DLT Pilot Regime is that it is designed as a testing environment. A specific permission to operate a DLT market infrastructure is temporary, with a limit of maximum six years. Operators that no longer meet the requirements may see their specific permission or any exemptions granted to them withdrawn.