Clifford Chance

While 2022 brought challenging market conditions, it was an interesting year for innovation in the capital markets. We saw further exploration of how distributed ledger technology (DLT) can transform how debt securities are issued, traded and settled, with the European Investment Bank issuing its first euro-denominated digital bond on a private blockchain in November 2022 for example.

2022 also saw the development of regulatory initiatives to stimulate the use of DLT in financial services, with the EU Pilot Regime being published in the Official Journal of the European Union on 2 June 2022 and the UK Financial Services and Markets Bill 2022 (the FSMA Bill) in September 2022 including proposals for a sandbox for financial market infrastructures. We look ahead to some of the key developments for 2023.

EU Pilot Regime: part of the EU Digital Finance package, this European regulation will give operators of financial market infrastructures such as trading venues and securities settlement systems the opportunity to experiment with the use of DLT in issuance and post-trade processes, within a sandbox environment. The pilot will launch on 23 March 2023 for an initial three year period and is expected to give rise to an increase in the volume of issuances of financial instruments that are issued, recorded, transferred and stored using DLT in Europe.

UK FMI Sandbox: the FSMA Bill proposed amendments to existing legislation pursuant to which HM Treasury would be empowered to create sandboxes in which financial market infrastructure providers and other designated persons can test the efficiency and effectiveness of certain activities, including through new technology or by adopting different practices while being subject to a bespoke legislative and regulatory framework. The proposals  seem to be open to a wider range of participants than the EU pilot regime and offer greater flexibility in terms of disapplying a wider range of applicable legislation, but this may change as the draft progresses. It is expected that these sandboxes will be available to participants at some point in 2023, following a public consultation last year and further discussions between HM Treasury, the Financial Conduct Authority and the Bank of England.

Greater legal certainty: In many jurisdictions there remain questions of law outstanding around the use of DLT, for example whether and how digital assets constitute property and what remedies apply on which market participants would benefit from greater clarity. At an international level, UNIDROIT is currently consulting on a set of draft principles for digital assets and private law which aim to improve the clarity around conflict of laws issues, among other things.  In the UK, 2023 will see the output of two key consultations that closed at the end of 2022 by the UK Jurisdiction Taskforce on digital securities and the UK Law Commission on digital assets. These will offer greater clarity as to how English law can support the issue and transfer of securities on DLT systems and may give rise to the launch of new projects.

Local regulatory evolution in the EU: it is expected that local law will continue to evolve in EU member states to facilitate the issuance of securities using DLT. For example, it is expected that French law will be updated to allow for the issuance of dematerialised bearer securities onto distributed ledgers, a new blockchain law is in the pipeline in Luxembourg and in Spain a draft bill for a new Services Markets and Financial Services Act was made public in 2022, including new provisions regarding the representation of negotiable securities by means of DLT, and should be debated further in 2023.

International developments: Regulators across the globe are considering implementing or developing frameworks to appropriately regulate digital assets and many of these proposed frameworks will impact the issuance of debt securities using blockchain. El Salvador is aiming for a "first-mover advantage" with its new digital assets issuance law. The law establishes a legal framework for digital assets that will facilitate its proposed issuance of a Bitcoin-backed "Volcano Bond" that it is proposing to use to repay sovereign debt and build "Bitcoin City", as well as creating a new regulatory authority - the National Digital Assets Commission. 

Issuance activity: as shown by the UBS digital bond listed on the SIX Digital Exchange and the above-mentioned EIB digital bond admitted to the Securities Official List of the Luxembourg Stock Exchange, each issued in November 2022, there are already avenues open to issuers that want to issue digital bonds. Therefore independent of the EU Pilot Regime and the UK FMI Sandbox, it is expected that there will be further issuance activity across key financial centres in 2023. 

For further insights into the role of FinTech in the future of debt capital markets, please listen to our podcast published in December 2022.