Following a decade of regulated activities that MiFID I introduced when it became law in 2007, participants of the financial industry are now facing one (more like two) of the biggest challenges they faced to date. “Dr. Evil” – MiFID II – accompanied by “Mini-me” – MiFIR – have been the subject for debates, lobbying and groovy contests these past few years. Are you ready to face reality?
The new Directive and Regulation were created back in 2014 and will become law in January of 2018, following a series of uncanny practices (Libor and FX fixing/rigging – in this doc referred to as “situations” which is French for situations), relating to deeds of banks and institutions whose greedy, slimy fingers are a disgrace to what the industry stands for. Who can really blame though someone (some more than one) who, given the opportunity to pocket gazillions, his/her conscience is not enough driving force to stop them? Oh well, maybe (and I say maybe) if we were in their shoes we would probably do the same, but since we’re not, we might as well keep name calling and blaming them for everyone’s misfortune.
Past the name calling though, we thought a good idea to share our understanding and views on the matter, written in plain English for the faint hearted and allow room for simple yet beautiful brains to comprehend. Remember magistrates of the world, that we train sales teams. We don’t draft laws so give us a little credit for understanding this much. So here it goes:
In simple words, MiFID I consists (ed?) of 73 Articles which cover(ed?):
- Conduct of business
- Best Execution Policy ensuring all reasonable steps were taken and enforced by institutions.
- Suitability and Appropriateness tests, usually performed through the registration process, client categorisation, conflicts of interest identification.
- Investment advice , inducements.
- Handling of client orders to ensure firms are acting in the client’s best interests.
- Licensing, authorization and passporting.
- Compliance monitoring, record keeping, internal and external audits.
- Corporate Governance relating to how companies collect and store client information.
- Pre/post trade reporting so as to prevent market manipulation (see the irony or is it just me?)
- Systematic Internalisers executing client orders against their own books or other clients.
The new-fangled monster called MiFID II consists of 97 Articles and MiFIR (mini-me) of 55 Articles, which cover:
- A new regulated trading platform, abbreviated OTF, since it stands for Organized Trading Facility:
It’s a multi-lateral system (that is not an MTF or RM) and allows buying and selling in a form that creates a contract.
It aims for more transparency and structure to OTC trading.
– Through tighter exception rules (more on this later), publication of trade details using an Approved Publication Arrangement (APA), reporting of data to national authorities to vet on pre/post trade transparency/translucency/vale-on-vale-off.
– Demands more “neutral” operators; it restricts execution of client orders against the operator’s own capital. Discretion is permitted under specific circumstances.
- Extended Trade and Transaction Reporting:
Under MiFID I trade reporting, the buy side could avoid reporting all together through an exception. Under MiFIR (mini-me), this exception a.k.a. expressed agreement of who has the obligation between the buy and sell sides, is not possible.
Under MiFID II transaction reporting, the buy side may rely on its broker to create a report (on top of their own) on its behalf through a transmission of order arrangement. Buy side must accept though that the information necessary to complete such a report are detailed (report field numbers sky rocketed), they are personal and may well conflict with best execution requirements. Food for thought – will all transactions – even with non MiFID brokers – be reported by the sell side? (How do you like your thoughts, rare, medium or well-done? now wait, there’s more…)
Words like MiFID I’s “reasonable” Vs MiFID II’s “sufficient” referring to the steps taken to achieve best execution results, already wreaked havoc since as ambiguous as they sound, minimum standards that are not defined must be met.
The execution per category of financial instruments must be published. Constant monitoring of the effectiveness must be in place with adequate adjustments when necessary.
- Enhanced Investor protection:
By forcing firms to provide total overview of expected costs and must inform their clients about the way these costs are charged.
By forcing any “independent” investment advice to actually be independent like it should from ground zero (ground zero is the day the words independent investment advice were connected and meant just that). If it’s independent or non-independent, it must be communicated before the advice is given.
Also through enforcing research that once was offered for free by the sell sides (investment bankers, commercial bankers, stock brokers, market makers) to buy sides (mutual funds, pension funds and hedge funds) in exchange for transactions placed with their banks and brokerages, to be now paid. Some of the aftershocks of this quake aka quacker, aka quackadoudledou, aka quakabanga (see what we did here? Ninja turtles? No? ok moving on..) include but not limit themselves to these:
- – Buy side will probably not be willing to pay for the analysis, mid-tier providers will stop producing it, distribution of a number of funds will be reduced since they will not have enough information to invest in markets unfamiliar to them, there will be lower liquidity for smaller and mid-tier stocks and finally widening of their spread (which is the opposite of what MiFID II was targeting in the first place… Ouf..now I can breathe….
- – The ones that walk among us with the supernatural gift should begin to see the ghosts of small to mid-tier research providers whose struggle to stay in business signified their doom. To return to the living, they must match the quality of top tier research providers (here lie the ruins of your dreams to become a mid-tier research provider…)
- – Specialists and/or niche research providers will have their 5 min of fame since buy side willing to buy research will go after their service, which might well be in competition with top quality service providers. You see their pizza is now pizza special…
Stricter corporate governance:
Since board of directors of institutions (including non-executives) must pay attention like good boys and girls, be aware – better yet awake – of the activities and attend their meetings for real (yes I wrote “for real” in a document that describes highly sensitive, regulation matters).
Algorithmic and High Frequency Trading requirements:
Systems that aim to control the execution of algorithmic trading in the marketplace.
Product governance and supervision as in:
National regulators can now ban and/or restrict marketing, sales, practices, activities and products they don’t agree with as they see fit. We should also see higher fines, penalties, reprimands and of course Santa not delivering gifts at Christmas.
A manufactured financial instrument must have a measurable target group whose needs, characteristics and objectives are met. The strategy for distribution must be appropriate and consistent with this target group and its potential risks to the target group consistently re-evaluated.
Non EU firms selling to EU citizens:
Although full harmonisation was not possible since EU member states can continue to apply national rules, it remains a choice of the national regulator to:
– Enforce a detailed set of rules set by MiFID II, designed to harmonise granting access and the compliance requirements of the non EU firm, in order to be authorised to provide services in its country (the rules don’t include dress code, food preferences and opinions on space exploration).
– In the above case, the non EU firm can provide services to these clients only through an authorised branch, compliant with these rules. That being said, MiFID II will Europeanise y’all, whether ya like it or not.
– An authorisation can only be given to branches whose mama-firm is authorised already in its own country to provide all services it’s applying for. If some of the services are not regulated in the mama country, they will be restricted in the EU Member State as well. It goes without saying that it’s a no-no to unregulated branches as well.
– A cross border service can be provided to eligible counterparties and professional clients if the non EU firm is authorised by ESMA, who will only register countries whose legal framework is equivalent to MiFID II and both co-operate on a supervisory level through the exchange of information (among other things).
– All entities trading with European counterparties will be required to obtain legal entity identifiers (LEIs) which they need to store in their reporting system. No LEI – No trade; or something like that…
The sales function never really saw eye to eye with compliance and laws that only add more obstacles when trying to meet your goals. It’s also a fact though, that if these laws did not exist, sales people would rule a world where there is no more money to target since all of it would fall into the hands of a few, opportunistic corporations that target loopholes and prey on the desires of “investors” to force their hens to lay more eggs.
We should be therefore grateful that we have these “watchdogs” as many times referred to by news outlets, regulating these fellows and allowing room for a healthier financial industry that enjoys its eggs in a fashionable and fabulous manner, whether runny, scrambled, omelette or poached (no pun intended).
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