Introduction – Markets in Financial Instruments Directive (MiFID) background and MiFID II key objectives
MiFID became law in the UK in November 2007. It set the conditions for initial authorisation and the on-going regulatory requirements that investment firms, Regulated Markets (RMs) and Multilateral Trading Facilities (MTFs) must meet. It was designed to encourage competition between Europe’s trading venues for financial instruments. It also aimed to ensure appropriate levels of protection for investors and consumers of investment services across the European Union (EU). So, for example, it introduced conduct rules such as suitability requirements for investment advice, best execution requirements for firms carrying out client orders, pre- and post-trade transparency requirements for equity markets and set minimum requirements for transaction reporting and regulated commodity derivatives. It expanded the range of investment services that investment firms could provide across the EU on the basis of their authorisation in the country where they are established.
More recently, the European Commission (Commission) reviewed the MiFID framework and concluded that change was needed. This was to address issues identified as a result of the 2008 financial crisis, market developments such as the growth of algorithmic trading and lessons learned from experience of how MiFID had operated so far. The Commission made a proposal in 2011 for revisions to MiFID which, after negotiations, were agreed in 2014.
The Commission set out four objectives for the revised legislation:
- strengthen investor protection
- reduce the risks of a disorderly market
- reduce systemic risks, and
- increase the efficiency of financial markets and reduce unnecessary costs for participants
MiFID II includes:
- The Directive (MiFID -2014/65/EU); this revises and expands the existing directive. The UK has to decide how to change its laws and regulations to give effect to its provisions, and to consult on the changes.
- The Regulation, the Markets in Financial Instruments Regulation (MiFIR -2014/600/EU); this is a binding legislative act, which directly applies across the EU. It seeks to harmonise across the EU key provisions linked to the trading of financial instruments.
MiFID II framework and implementing legislation
The agreement of the MiFID II framework legislation in 2014 allowed the European Securities and Markets Authority (ESMA) to publish consultation documents on the implementing legislation, delegated acts and technical standards, which sits underneath the framework legislation. ESMA gave the Commission technical advice on the delegated acts in December 2014. These cover mainly issues around conduct of business rules and organisational requirements for investment firms.
In June and September 2015, ESMA sent most of the draft technical standards to the Commission. They covered mainly issues related to the secondary trading of financial instruments. We expect the delegated acts and technical standards to be completed in the first half of 2016.
UK implementation
MiFID II is currently due to apply from 3 January 2017. By 3 July 2016, Member States must change their laws and regulations to give effect to the provisions of MiFID II that are in a directive and not directly applicable. Discussion is currently taking place between the Commission, the European Parliament and Council of the European Union about whether the date of application of MiFID II should be delayed by a year. If there is a change to the legislated timetable, our implementation plans will take that into account.
HM Treasury (the Treasury) consulted on most of the changes to UK legislation required to implement MiFID II in March 2015. At the same time, we began our own consultation process and published a discussion paper, DP15/3[1], about issues where we have discretion in implementing MiFID II. We cannot consult on the full range of changes we need to make to our Handbook until we have greater clarity on the MiFID II implementing measures, particularly the delegated acts. So we have decided to consult in stages.
This first MiFID II consultation paper covers, and seeks views on, the issues related to our regulation of the secondary trading of financial instruments. Some of the points on which we are consulting may be impacted by as yet unpublished EU legislation and guidance, but we think it is helpful to set out our views on these matters, at this relatively early stage of the implementation process.
We will consult on the other MiFID II changes we need to make to the Handbook, including the conduct issues covered in DP15/3, in the first half of next year. We understand that the PRA will also consult next year on the changes it needs to make to its Rulebook.
A significant part of MiFID II takes the form of EU regulations. These are directly applicable, which means they can take effect in the UK without the need for changes to domestic laws and regulations. When implementing MiFID, we copied into the Handbook provisions in the implementing regulation (Regulation 1287/2006/EC).
In implementing MiFID II, our starting point for provisions in regulations, given their directly applicable nature and length, is that we will not copy them out into the Handbook but simply include a reference to them and update the Reader’s Guide accordingly. There will be some exceptions to this, for example when it is necessary to exercise a discretion provided for in the regulation itself.
Content of this Consultation Paper
Our Consultation Paper focuses on areas where we have sufficient certainty about the MiFID II legislation to be able to make proposals for implementation. We set out our implementation proposals, and seek views on the proposed changes to the FCA Handbook in the following areas.
Trading Venues:
- Regulated Markets (RMs) – Issues around new obligations relating to algorithmic and high frequency trading, direct electronic access, tick sizes, business continuity and systems and controls. We propose making changes to the Recognised Investment Exchanges sourcebook (REC).
- Multilateral Trading Facilities (MTFs) – Changes to the requirements for MTFs. We propose making changes to the Market Conduct sourcebook (MAR) in MAR 5.
- Organised Trading Facilities (OTFs) – Issues around the requirements for this new category of trading venue. We propose introducing a new Handbook chapter for OTFs, MAR 5A.
Systematic Internalisers (SIs) – Changes to the SI regime, much of which is directly applicable by virtue of being included in MiFIR. We propose amendments to MAR 6.
Transparency – The expansion of transparency requirements to equity-like and non-equity markets, including our approach to pre-trade transparency waivers and post-trade transparency deferrals. We are proposing changes to sections of the Handbook for trading venues including REC, MAR 5, and the new MAR 5A.
Market Data – Introducing the new Data Reporting Services Providers (DRSP) category of firms and their responsibilities, and also covering Transaction Reporting. We seek views on proposals within a new Handbook chapter, MAR 9 on DRSPs, and whether we should apply MiFID II’s transaction reporting obligations to managers of collective investment undertakings and pension funds.
Algorithmic and High Frequency Trading (HFT) Requirements – The controls for MTFs and OTFs in MAR 5 and 5A, and those for trading firms in the new MAR 7A. These proposals cover, among other things, business continuity, systems and controls, financial crime and market abuse, direct electronic access and tick sizes.
Passporting and UK branches of non-European Economic Area (EEA) firms – Where we address the technical changes needed to make the correct references to the new MiFID II provisions and to highlight the harmonised forms required for passporting notifications. These changes will predominantly apply to the Supervision manual (SUP). We also make a proposal to ensure that UK branches of non-EEA firms are subject to the same rules as investments firms when undertaking investment services and activities.
Principles for Businesses (PRIN) – Where we take account of the extension in MiFID II of some conduct of business obligations and propose extending the application of some of the principles, to include firms that conduct business with clients categorised as Eligible Counterparties (ECPs).
The Perimeter Guidance manual – PERG 13 provides guidance on the scope of MiFID. MiFID II introduces some changes to the scope of investment services and activities and financial instruments, requiring us to make proposals to revise parts of PERG 13. These include guidance on the MiFID II definition of a ‘multilateral system’.
MiFIR and the Regulatory and Implementing Technical Standards (RTSs and ITSs) apply directly in the UK and, in the main, do not require changes to UK law or rules to have effect in the UK. So, although the measures listed below are significant market issues, we will not consult on them. Such measures include:
- the double volume cap mechanism to restrict the ‘dark’ trading of equity and equity-like financial instruments (article 5 MiFIR)
- the trading obligation in shares (article 23 MiFIR)
- the obligation of investment firms to maintain records of transactions, and of trading venues to keep data relating to orders (article 25 of MiFIR)
- transaction reporting (article 26 MiFIR)
- the obligation to supply instrument reference data (article 27 MiFIR)
- the obligation to trade on a RM, MTF or OTF (article 28 MiFIR)
- the clearing obligation for derivatives traded on a RM and timing of acceptance for clearing (article 29 MiFIR)
- portfolio compression (article 31 MiFIR), and
- non-discriminatory access to central counterparties and trading venues and non-discriminatory access to, and obligation to, licenced benchmarks (articles 35 to 38 of MiFIR)
We will consult on the many MiFID II issues not covered in this paper in the first half of next year when we expect to propose changes to:
- the Conduct of Business sourcebook (COBS)
- Senior Management Arrangements, Systems and Controls (SYSC)
- the Client Assets sourcebook (CASS)
- the Decision Procedures and Penalties manual (DEPP), and
- the Enforcement Guide (EG)
There will also be further changes to the Perimeter Guidance manual (PERG) to reflect issues related to certain exemptions and definitions of financial instruments being dealt with in the implementing measures. We will consult on those changes in 2016.
Draft Handbook Text
The draft Handbook text appears in Appendix 1. We also include amendments to the Glossary relating to the Handbook materials under consultation.
The scope of this consultation is broad, and will be of general interest to many of the firms currently providing MiFID services and performing MiFID activities, and also to Recognised Investment Exchanges.
MiFID II Handbook Guide for trading venues and data reporting service providers
We seek feedback on a MiFID II Handbook Guide, which will sit alongside the Handbook changes. Please note that this document is intended to clarify how our approach to implementing MIFID II is addressed through our sourcebooks.
Our attached prototype Guide can be expanded to cover other firms and other areas of MiFID II when we issue further consultations, if respondents think it is helpful. Please see Appendix 3 for our proposed MiFID II Handbook Guide.
Q1: Do you find our proposed MiFID II Guide helpful? If not, how can we amend and improve the prototype?
Cost benefit analysis (CBA)
Annex I includes the CBA analysis undertaken for this consultation. There is high level analysis of issues where we have little or no discretion in the way we implement MiFID II, and more detailed consideration of other issues.
This supplements the CBA work done by the Commission on its original legislative proposal and by ESMA on the draft technical standards.[2]
Who does this consultation affect?
This consultation affects a wide range of firms we authorise and recognise, particularly
- investment banks
- interdealer brokers
- firms engaging in algorithmic and high-frequency trading
- trading venues including RMs, MTFs, and prospective OTFs
- prospective DRSPs, and
- investment managers
Is this of interest to consumers?
Consumers have a clear interest in financial markets that operate fairly and transparently, which
is the rationale for the proposals in this Consultation. However, the subjects covered, other
than the PRIN chapter, do not deal with the investor protection rules in MiFID II that are of more
direct concern to consumers. We will issue a subsequent consultation on these.
Additional information
Equality and diversity considerations
We have considered the equality and diversity issues that may arise from the proposals in this consultation.
Overall, we do not consider that the proposals in this consultation paper adversely affect any of the groups with protected characteristics i.e. age, disability, sex, marriage or civil partnership, pregnancy and maternity, race, religion and belief, sexual orientation and gender reassignment.
We will continue to consider the equality and diversity implications of the proposals during the consultation period, and will revisit them when publishing the final rules.
In the interim, we welcome any input to this consultation on such matters.
MiFID Coordination
Markets Policy and International Division
Financial Conduct Authority
25 The North Colonnade
Canary Wharf
London E14 5HS
Telephone: 020 7066 9758
Email: cp15-43@fca.org.uk
Footnotes
- ^ http://www.fca.org.uk/news/dp15-03-mifid-ii-approach
- ^ Drafts of the technical standards on transparency, microstructural issues, data publication and access, requirements applying on and to trading venues and market data reporting [RTS 1-18 & 20-28 & ITS 19] are available at https://www.esma.europa.eu/news/ESMA-readies-MiFID-II-MAR-and-CSDR?t=326&o=home(link is external) – see link to ‘2015/1464 –Annex I – Draft Technical standards on MiFID II/MiFIR’.Drafts of the technical standards relating to passporting [RTS 3 – passporting & ITS 4] are available at https://www.esma.europa.eu/content/Final-Report-MiFID-II-MiFIR-draft-technical-standards-authorisation-passporting-registration(link is external).