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Are You Ready for MiFID II

November 28, 2017
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By Geri Westphal

New rules are about to be implemented that could upend European financial markets. 

And while the new regulations, known as MiFID II, are set to take effect on January 3, 2018, there are still some key aspects that are unclear, causing uncertainty in interpretation among the financial industry and regulators alike. Some things are clear however, and corporate treasurers are encouraged to move forward now with any potential modifications to their trading activities to ensure timely compliance. 

During a recent webinar sponsored by Thomson Reuters and facilitated by the NeuGroup, Chris Leonard-Appleton, Director, Regulation at Thomson Reuters and John Mason, Global Head of Regulatory and Market Structure Propositions from Thomson Reuters provided valuable insight on the impact MiFID II will have on all organizations engaged in the dealing and processing of financial instruments with the European markets.

When asked what Thomson Reuters is doing to support organizations ahead of the MiFID II changes, Mr. Mason responded, "A lot is going on. MiFID II is a very extensive piece of legislation that spans across all aspects of the transaction workflow, from trading to reporting. We are recommending clients take a holistic view of their trading activity and make process/policy changes to document their full trade cycles."

When polled—"What area of your business is most likely to be impacted from MiFID II?"—nearly half of all webinar respondents said FX trading would be most impacted, with capital markets transactions/reporting expected to be much less impacted. Thirteen percent were not sure of the overall impacts, as they are still evaluating the potential outcomes, and 14% expected no meaningful impact.

Area of Business Most Impacted by MiFID II 

What is MiFID II and why you should care

The Markets in Financial Instruments Directive (MiFID) has been the cornerstone of the European Union financial services law since 2007 when it replaced the Investment Services Directive (ISD). It was originally written to harmonize regulations for investment services in the European Economic Area, with its main objective to increase competition and consumer protection of investment services.

In response to the global crisis of 2008 and a variety of G20 initiatives, MiFID will be extended and MiFID II will be applied to cover non-equity instruments to extend transparency by the introduction of new pre-and post-trade reporting requirements on trading venues. Although MiFID II directly impacts EU registered investment firms, it also impacts organizations outside the EU who deal with EU clients, counterparties or branches that may be EU based. Companies who trade in EU based venues will now have those trade details published by those venues.

MiFID introduced the concept of Multilateral Trading Facility (MTF) which is defined as a multilateral system operated by an investment firm or market operator, which brings together multiple third-party buying and selling interests in financial instruments in the system. Under the new guidelines, Thomson Reuters FXall QuickTrade, a leading independent electronic trading platform for FX activity, is considered an MTF and will be registered as a trading venue along with Thomson Reuters' trade matching service, Forwards Matching, which is an MTF today.

As an MTF, FXall will be required to apply new reporting requirements, new order record keeping and a variety of new controls including clock synchronization, pre-and post-trade controls, test environment and surveillance systems. It will also be required to send new data to the Financial Conduct Authority (FCA) and The European Securities and Markets Authority (ESMA), including trade reports and reference data.

Corporates inside the European Economic Area (EEA) will be required to onboard to the MTF unless they have non-EEA affiliates, in which case they may trade off-venue with those affiliates (this must be requested in writing). Thomson Reuters will offer "off-venue" trading for entities established outside of the European Economic Area. Corporates outside of the EEA will become off-venue members by default and no further action will be required.

MiFID II Overview

How do I know if I am "Off-Venue"?

Jurisdiction is important in determining the impacts of MiFID II. For Corporates who are located in the European Economic Area, the greatest impact of MiFID II has to do with onboarding to the MTF, which is primarily a data gathering exercise that the MTF has to undertake to meet its regulatory obligations.

For non-EEA corporates, consideration should be given to the assessment of where trading counterparties (banks) will be located and whether they intend to price off-venue.

Prior to MiFID II, the exemption for non-financial firms was a blanket exemption and generally they were not required to seek authorization to trade with their banks on their own account. Now, however, there are specific requirements to consider that are likely to affect many corporate treasury functions. These exemptions include:

  • Dealing on own account in financial instruments other than commodity derivatives and emission allowances. Exemption applies unless you are:
    – A market maker.
    – Apply an HFT algorithmic trading technique.
    – Execute client orders.
    – A member of a trading venue; the exemption will continue to apply if trading venue membership is used to undertake hedging activity.
  • Dealing on own account in commodity derivative and emission allowances. Exemption applies provided:
    – The trading activity is ancillary to your main business activity.
    – You do not apply an HFT algorithmic trading technique.
    – You inform the relevant regulator on an annual basis that you use this exemption and how you qualify for it.

New Reporting Requirements

Under the MiFID II Transparency Requirements, Investment Firms must submit post-trade reports to an Approved Publication Arrangement (APA) in "real time." An APA is a system that requires firms executing transactions to publish trade reports through a body that ensures timely and secure consolidation and publication of such data. For example, Thomson Reuters will partner with Tradeweb APA to publicly report on all trades made on Thomson Reuters FXall Quick Trade and Forwards Matching.

Trading and Execution Venues are to submit additional pre-trade information to the same platform. Published attributes related to the core economics of in-scope transactions, including price, currency, volume and execution time of the relevant trade are included in such reporting. In-scope products are shares and other equity-like and non-equity instruments that have been traded on a "venue," including Regulated Markets (RMs), Multilateral Trading Facilities (MTFs) and Originated Trading Facilities (OTFs).

Broader Implications

Certain impacts of MiFID are potentially much broader including that of research. For the first time, fund managers will have to budget separately for research and trading costs, a move known as unbundling.

In the US, under the new guidelines, financial institutions could not have received direct payments for research unless they had formally registered as an investment advisor. The recent announcement by the SEC offers a 30 month "no action" on US-based organizations if they are offering research to MiFID compliant companies, but even so some US-based companies have taken the leap and registered as investment advisors.

Based on discussions as part of the recent webinar, it was noted that several organizations' asset managers said they will be taking the cost of research to their own P&L, while others have decided to pass on the cost of obtaining that research to their clients. It will be important for treasury personnel to understand the impact of these bank-specific decisions.

How Clients are Affected 

Important Steps to Take NOW

According to Mr. Mason, one of the most important key takeaways from the webinar was that companies need to understand the impact of MiFID on their organization sooner rather than later. "MiFID is far reaching," he said. "Although its primary focus is European investment firms, its implications on companies outside of Europe are significant. Any corporation that deals with European markets will need to consider the impact of MiFID II."

These MiFID II Implications include:

  • Do you invest in EU instruments?
    – You will need an LEI to place an order with an EU broker.
    – Trade details will be reported to the market.
    – Transaction details will be reported to the broker's NCA.
    – Employee personal data will be required.
  • Do you trade on an EU platform?
    – You will need to register on the platform with your trader's PII data.
    – The venue will report your transaction to its NCA.
    – The venue will publish trade data to the market.
  • Do you issue EU securities?
    – You will need an LEI.
    – If your home jurisdiction doesn't have Equivalence, your instruments can only be traded by EU investors on an EU venue.
  • Do you trade with EU Counterparties?
    – You will need an LEI.
    – Your counterparty will most likely need to report the trade and transaction details.

Impacts to Corporates

 

"Get on to MiFID II quickly. It is going to be massive," Mr. Leonard-Appleton said at the end of the webinar. "There are a lot of requirements that have already been defined. It may warrant a conversation with regulators, brokers and counterparties, but it is important to make decisions and incorporate them into your trade flows now rather than procrastinating. Document your trade life cycles and get senior management sponsorship to drive change."

Don't say we didn't warn you. Be prepared!