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MiFID II and MiFIR – The markets in financial instruments directive and regulation

Welcome to our MiFID II and MiFIR hot topic page which sets out information on the current status of MiFID II including industry consultation papers. We have included links on this page to our MiFID II briefings, relevant sources of law, regulations and guidance. For the very latest information and advice on MiFID II, please feel free to contact one of our lawyers.

Countdown to MiFID II application

MiFID II will apply on 3 January 2018. Make sure you are fully prepared.

How we can help

MiFID II Net

MiFID II Net offers a one stop shop solution to help you plan and manage your entire MiFID II implementation project. Our gap analysis tool is designed in conjunction with clients to address MiFID II project implementation in a cost-effective manner. The tool can be seamlessly integrated into MiFID II Net’s project management capabilities.
Delivered via an online platform, the tool contains:
  • Functionality to allocate and monitor project tasks
  • Calendar reminders
  • A fully fledged document management module
  • MiFID II document suite
  • Cloud storage for secure online storage for your templates, polices and documents

For further information, please contact Andrew Henderson or Michael Booth.

MiFID maps

Our MiFID Maps tool is designed to help with MiFID II implementation and can be used in conjunction with the MiFID II gap analysis and project implementation tools which we offer.

MiFID Maps identify:

  • how the Level One MiFID I provisions map against the Level One MIFID II and MiFIR provisions;
  • each article of the Level One MiFID II Directive and MiFIR Regulation, by number and subject, as well as corresponding recitals which have an important role in giving meaning to some articles;
  • how the European Securities and Markets Authority (ESMA) have amplified the Level One provisions, through Level Two directives, regulatory technical standards (RTS) and implementing technical standards (ITS);
  • the provisions of the Organisational Regulation (Commission Delegated Regulation (EU) of 25.4.2016) which will replace sections of the FCA Handbook of Rules and Guidance; and
  • how the Financial Conduct Authority (FCA) is currently planning to implement the requirements of MiFID II in the United Kingdom (as it has indicated in Consultation Papers 16/19 and 15/43).

About MiFID II

MiFID II represents the response to the Commission’s review of the Markets in Financial Instruments Directive (MiFID) in light of the 2008 financial crisis. MiFID governs the regulatory framework for firms that provide investment services and products in the European Union (EU). MiFID II expands MiFID’s scope, adds further investor protections, increases the requirements related to the trading of financial instruments and introduces new provisions for non-EU investment firms offering investment services and products in the EU.

The key changes envisaged by MiFID II are classified in respect of the following areas (and we explore these in more detail below):

Scope

MiFID - scope

MiFID II extends the scope of MiFID significantly in a number of ways.

MiFID II creates a new MiFID investment service of operating an organised trading facility (OTF). OTF is a multilateral discretionary trading platform that is not currently regulated but is used for instance in the trading of standardised derivatives contracts. OTF is defined as not a regulated market and not a multilateral trading facility (“MTF”), and covers more informal systems.

MiFID II also extends the definition of financial instruments to include emission allowances, extends the scope of the transaction reporting requirements to all financial instruments to ensure that the MiFID requirements mirror those of the Market Abuse Directive (2003/6/EC) and restricts existing MiFID exemptions, relevant in particular to commodity derivatives dealers, including marker makers.

In order to continue to be exempt, the following conditions must be present:

a) The activity is ancillary to the main business when considered on a group basis and the main business is not the provision of investment or banking services or acting as a market maker in commodity derivatives.

ESMA will develop regulatory technical standards to specify when an activity is to be considered as ancillary to the main business on a group basis for the purposes of this requirement. It is expected that ESMA may have regard to the capital employed in the ancillary activity relative to that used in the main business and to the size of the trading activity compared to the overall trading activity in that asset class; and.

b) The dealer must not apply a high frequency algorithmic trading technique. Firms engaging in this trading must be authorised and high frequency traders must be properly supervised.

The exemption will not be available to:

  • Market makers;
  • High frequency algorithmic traders;
  • Those who execute client orders; or
  • Persons who are members or participants of a regulated market, an MTF or who have direct electronic access to a trading venue.

These conditions do not apply to insurers, reinsurers, collective investment schemes or pension funds (or the depositaries or managers thereof).

Investor protection

MiFID - investor protection

The intention of MiFID II is to strengthen investor protection, and the key elements covered by MiFID II are discussed below.

Eligible counterparts

MiFID II imposes additional requirements in respect of eligible counterparties, such as the obligation to act honestly, fairly and professionally, and to report periodically. This is likely to require amendments to the current policies and procedures in place with the counterparties.

Client classification

Investment firms will no longer be able to automatically classify municipalities and local public authorities as professional clients or eligible counterparties unless they have opted to be treated as such and the firm has assessed them as having the requisite knowledge and experience.

Product governance

Manufacturers of financial instruments will have to maintain a product approval process which will identify the target market for each product and assess all relevant risks. Firms which offer such products but do not manufacture them will have to understand the features of those products, including the identified target market.

Suitability and appropriateness

Suitability requirements apply to advised services and portfolio management. There is a more onerous obligation on investment firms to determine suitability and there is a requirement to provide periodic reports to clients.

Appropriateness requirements apply to non-advised services. The test will apply to shares and bonds (unless either are traded on a regulated market or MTF), all debt instruments that embed a derivative, structured UCITS and structured deposits that ‘incorporate a structure which makes it difficult for the client to understand the risk of return or the cost of exiting the product before term’.

Independent advice

Firms will have to inform clients whether their advice is provided on an independent basis.

Inducements

Investment firms which provide advice on an independent basis or provide portfolio management are banned from accepting or receiving fees, commissions or any monetary benefits paid or provided by any third party. MiFID II allows minor non-monetary benefits, such as training on the features of a product.

Best execution

The investment firms executing client orders are required to provide sufficient detail in respect of their execution policy, and they must summarise and make public (on an annual basis), for each class of financial instrument, the top five execution venues where they executed client orders in the preceding year.

Trading venues and systematic internalises are required to publish annual data relating to the quality of execution of transactions, including information on price, costs, speed and likelihood of execution for individual financial instruments.

Bundled services

Firms will have to inform clients whether they can buy the different components of bundled services separately, providing information about costs and charges in respect of each component.

Information requirements

Investment firms will have to provide information in respect of investment strategies and risks, whether the financial instruments are intended for retail or professional clients, execution venues, costs and other charges.

Telephone and electronic recording

Investment firms will have to try to record relevant telephone conversations, meetings and electronic communications concerning actual or proposed own account and client transactions, provided clients are notified of any such recording taking place.

Product intervention

ESMA, the EBA and member state regulators are given new powers to prohibit or restrict marketing, distribution or sale of certain financial instruments or financial activity or certain structured deposits where there is a significant investor protection concern.

Markets

MiFID - markets

MiFID II provides for the following changes:

Creation of a new category of trading venue The organised trading facility (OTF) (the definition is limited in scope to non-equity instruments).

The OTFs, unlike the regulated markets and the MTFs are required to exercise discretion when executing orders in respect of whether to place an order within the OFT or to retract it, and whether to match specific client orders with other orders in the system.

Investment firms and market operators operating an OTF are also subject to the investor protection obligation.

Procedures to push more trading onto regulated trading venues Examples include; regulated markets, MTFs and OTFs, and systemic internalisers (“SIs”).

The definition of an SI is now wider, so that more firms will be treated as SIs. MiFIR sets out two quantitative thresholds: one for determining whether a firm deals on own account on a ‘frequent and systematic’ basis, and one for determining whether it does so on a ‘substantial basis’. Both must be present for a firm to be classified as an SI, and the category also extends to non-equity instruments.

Significant extension of the pre- and post-trade transparency regimes to a wider range of equity and non-equity instruments

OTFs will be subjected to the same transparency rules as other trading venues, to improve trading transparency in equity markets. Transparency requirements extended to "equity-like" transactions.

There is a new trading transparency regime for non-equity markets (that is bonds, structured finance products, derivatives and emissions allowances). The exact transparency regime will be tailored to the instrument in question.

Investment firms will be required to submit post-trade data to Authorised Reporting Mechanisms, who will report the details of transaction to regulators on behalf of investment firms to ensure the data is published in a way that facilitates its consolidation with data published by trading venues.

Algorithmic trading, market making and direct electronic access

MiFID II requires investment firms to notify their home regulator, as well as the regulators of the trading venues they trade on, that they are using algorithmic trading strategies.

Measures to promote access to clearing facilities and benchmarks to improve competition between central counterparties and trading venues.

New requirements for trading venues

Examples include; regulated markets, MTFs and OTFs in relation to their systems, controls, circuit breakers and rules relating to minimum tick size (that is, the smallest increment by which the price of a financial instrument can move). Trading venues will be required to publish annual data on execution quality

Inducements

Investment firms which provide advice on an independent basis or provide portfolio management are banned from accepting or receiving fees, commissions or any monetary benefits paid or provided by any third party. MiFID II allows minor non-monetary benefits, such as training on the features of a product.

SIs’ obligation to make public firm quotes for both equity and non-equity financial instruments traded on a trading venue for which they are SIs and for which there is a liquid market.

Reporting obligations relating to the size and purpose of a commodity derivative contract, to include empowering regulators to monitor and intervene at any stage in trading activity in commodity derivatives (including imposing position limits where there are concerns about disorderly markets).

Provisions to facilitate access to capital for small and medium sized enterprises (SMEs) and to facilitate further development of specialist markets to cater for the needs of SME issuers (known as SME markets or growth markets).

Third country firms

MiFID - third country firms

MiFID II provides for the following changes

  • Introduction of a harmonised rules for authorisation and conduct of business of EU branches of third-country firms.
  • Direct access to EU eligible counterparties and certain professional clients subject to Commission decision on equivalence in respect of the third country’s legal and supervisory regime (subject to being registered by ESMA).
  • Member States may require establishment of a branch to access retail investors and certain professional clients, as such there is no provision for a European passport.
  • ‘Passporting’ from an EU branch to eligible counterparties and certain professional clients (no need to be registered with ESMA as a permitted third country firm).

Current status of MiFID II

The text of the MiFID II Directive (the Level 1 Directive) and the text of MiFIR were been published in the Official Journal on 12 June 2014. They each came into force on 2 July 2014.

Member states are required to adopt measures to transpose the MiFID II Directive by 3 July 2017 and those measures must be effective from 3 January 2018 (with some minor exceptions). As MiFIR is a regulation it does not need to be transposed and will apply (with limited exceptions) from 3 January 2018. Please see the MiFID II section of our Financial Services Regulatory Calendar for key future milestones.

Industry consultation and discussion papers

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