With the sheer volume of new regulations enforced by MiFID II, it can be hard to keep track of everything that’s required of your firm. To help you get to grips with some of the key tenets of the EU’s new legislative framework, here’s a series of frequently asked questions that will provide you with the essential information you need to get to grips with MiFID II.
MiFID II is the second iteration of the EU’s Markets in Financial Instruments Directive. It was brought into effect on 3 January 2018, replacing the original MiFID which was implemented in 2004.
In simple terms, MiFID II is a European legislative framework intended to regulate and protect the financial market. Its key aims are to increase both pre- and post-trade transparency, protect investors, accommodate new technology and increase the integrity and stability of the market.
Another set of regulations entitled Markets in Financial Instruments Regulation (MiFIR) was passed alongside MiFID II. While not technically a part of MiFID II, these two legislative frameworks are often referred to in tandem. MiFIR is concerned predominantly with the regulation of trade and transaction reporting in a bid to vastly improve market transparency.
The regulations outlined in MiFID II affect any and all financial services businesses who operate within the European Union. This includes investment firms, asset managers, trading venues and financial data service providers.
It is important to note that MiFID II may still apply to businesses that are not licensed within the EU, or even businesses with no physical European presence whatsoever; MiFID II applies to all businesses who pursue business, either directly or indirectly, within Europe. This means that international firms who have clients or interests within Europe will still need to follow MiFID II’s regulatory guidelines.
For more on the intercontinental impact of MiFID II, see eflow’s blog.
The original MiFID defined three types of trading venue – Multilateral Trading Facilities (MTFs), Regulated Markets (RMs), and investment firms with systematic internalisation (SI). Despite this categorisation, a number of transactions were conducted outside of these venues on alternative trading systems. These alternative systems were difficult to regulate and had little in the way of transparency.
In an attempt to rectify this issue, Article 1 of MiFID II introduced a new form of multilateral trading venue – Organised Trading Facilities (OTFs). An OTF is a multilateral system that is neither an RM nor an MTF. In OTFs, third-parties buying and selling interests in bonds, structured finance products, emission allowances and derivatives are able to interact within the system in a way that results in a contract. This definition is purposefully broad so as to accomodate for the regulation of as many trading venues as possible. Under Article 2 of MiFID II, OTFs are now bound by many of the same regulations as RMs and MTFs.
Perhaps the most strongly emphasised goal of MiFID II is to increase market transparency. In order to help achieve this goal, MiFID II has implemented a number of strict transaction reporting regulations. Reports must be made either directly to a National Competent Authority (NCA), by way of an Approved Reporting Mechanism (ARM), or via the trading venue through which the transaction was made.Transaction reports must reach the competent authority by 11:59:59 on the working day following the day of the transaction.
When making a report, 65 distinct data fields must be filled out – a vast increase from the 24 data fields required by MiFID I. Among other things, these reports must detail the firm actioning the trade, the buyer and the seller, and the date and time of the executed transaction. For any given transaction, all traded financial instruments must also be reported. This includes instruments traded on Multilateral Trading Facilities (MTF), Organised Trading Facility (OTF) and emissions allowances.
Ensuring best execution for investors has been of priority of MiFID since its original implementation in 2004. To that end, MiFID I stated that firms were obliged to take ‘all reasonable steps’ to ensure that their clients received the best possible outcome when executing their orders.
In a bid to further protect the best interests of investors, MiFID II has strengthened this requirement, stating that firms are now obliged to take ‘all sufficient steps’ to ensure best execution. Under MiFID II, best execution is measured against a number of factors including ‘price, cost, speed, likelihood of execution and settlement, size, nature or any other relevant consideration.’ ESMA has also specified that the ‘fairness of the price proposed by the client’ should be considered when analysing best execution.
MiFID II’s best execution guidelines are formalised predominantly by RTS 27 and 28.
RTS 27 and 28 are two Regulatory Technical Standards implemented as a part of MiFID II. RTS 27 and 28 allow the public and investors to evaluate the best execution practices of a firm.
RTS 27 requires that execution venues, market makers and systematic internalisers publish best execution reports quarterly.
RTS 28 was first implemented on April 30 2018 and required that firms disclose their top five execution venues for the preceding year. Looking forward, under RTS 28, these firms will also have to annually publish information on the quality of execution obtained from these top five venues.
Under MiFID II, firms are required to store records for all services, activities and transactions for a minimum of five years. If requested by a National Competent Authority (NCA), these records may have to kept for up to seven years.
As well as services, activities and transactions, records must be kept of orders that were intended to result in a transaction, even if the transaction was not completed. Records must also be kept of telephone conversations, electronic communications and minutes made in face-to-face meetings. Minutes of face-to-face meetings must include the date and location of the meeting, the identities of the people present, and any relevant information on the transaction/proposed transaction.
All data pertaining to trade and communications must be stored in WORM (Write Once, Read Many) format. This format is fully tamper proof, and ensure that data records cannot be corrupted or erroneously altered.
MiFID II also requires that firms take ‘all reasonable steps’ to ensure that employees do not discuss transactions via their own personal equipment.
In 2016, ESMA implemented Market Abuse Regulation (MAR) – a set of regulations designed to combat market abuse. While MiFID II does not explicitly deal with market abuse, it has impacted the way in which MAR functions. For one, MAR now applies to all financial instruments covered by MiFID II’s new transaction reporting requirements.
MAR also makes use of the extensive record keeping which MiFID II requires. Regulators may request access to any document, record, or data should suspicion of market abuse arise.
For more information on MAR, see eflow’s MAR FAQs.