New proposal to revise MiFID

Date 21 nov. 2011

 

Introduction

On 20 October 2011, the European Commission published a proposal[1] to amend the Markets in Financial Instruments Directive (MiFID)[2] due to the experiences gained during the financial crisis.

In the following, the fundamental components of the proposal are reviewed.


The fundamental components of the proposal

Extension of the Directive’s scope of application

A key component of the Commission’s proposal is an extension of the Directive’s scope of application. For example are organisational requirements for providers of data established, such as Approved Reporting Mechanisms (ARM). According to the proposal, providers of data must apply for permission to provide data services and, if granted, their license will solely grant them permission to provide the data services that are specifically included in the data providers’ permission.

 

Furthermore, the proposal extends the scope of application of the Directive, which will include additional financial instruments, e.g. unregulated trading of bonds, and structured products, derivatives and CO2 quotas.


Organised Trading Facilities

Besides multilateral trading facilities (MTFs) and regulated markets, the Directive’s scope of application will be extended to include all organised trading facilities (OTFs). As a result of the proposal, companies that operate OTFs will be required to obtain individual licenses. This serves to ensure that all trading facilities follow the same regulation regarding transparency. This strengthens competition and helps avoiding potential conflicts of interest.


The European Commission proposes a wide definition of an OTF, by defining it as any system or facility where several third party buy and sell interests interact in the same system.


Furthermore, the definition of the term systematic internaliser (SI) is widened, to include firms that execute client transactions against its own accounts. Further details concerning SIs will be set out by the European Securities and Markets Authority (ESMA, former CESR).


An improved regime for SME growth markets

The proposal introduces a new subcategory of markets: SME growth markets (small and medium-sized enterprises). For the MTFs, which are today intended for small and medium-sized enterprises, it will become possible to register as a SME growth market. The registration of these markets should raise the quality of the market as such registration requires that certain conditions are met.


As a condition for SME growth markets, the majority of issuers are required to be small or medium-sized enterprises, if trading of financial instruments is allowed on the MHF, and the MHF has to establish appropriate criteria for accepting securities to be traded on the MHF. Furthermore, sufficient information, e.g. in the form of a prospectus, has to be provided when an issuer wishes to trade its financial instruments on an SME growth market.


Limitation to the Exemption regarding Ancillary Services

The proposal introduces an exemption which excludes individuals from the scope of MiFID, if the individual deals on his own account as an exclusive activity, or as an ancillary activity which is secondary to his main area of occupation. The European Commission’s proposal clarifies and limits exemptions more clearly to activities, which are less central to MiFID and primarily proprietary or commercial in nature or which do not constitute high frequency trading.

 

Corporate Governance

The European Commission’s proposal strengthens the provisions related to corporate governance. Among other things, the proposal entails that members of managing bodies are obligated to spend a sufficient amount of time on executing their tasks in investment company and that they may only have one of the following combinations in investment companies at the same time; one managing director title and two board member positions or four board member positions.


The specific drafting of the corporate governance requirements will be determined by ESMA.


Increase of regulatory demands for algorithmic trading

Due to the technological development and the risks caused by algorithmic and high frequency trading, it has proven necessary to increase regulatory requirements for everyone participating in algorithmic trading.


The proposal contains provisions concerning requirements for everyone participating in algorithmic trading and requires specific regulatory and supervisory measures and risk controls in order to adequately ensure the system’s flexibility and capacity and to ensure the existence of safeguards to prevent erroneous orders, which may cause an instable market if disclosed.


Extended independence

In relation to investment advice, the European Commission proposes that it must be specified, whether the advice is given on an independent basis. Independent basis means that the investment companies are required to evaluate if the financial instruments are diversified and that the financial instruments cannot be issued by entities closely related to the investment advisor. In addition, the investment advisor may not receive compensation, commission or the like from any third party.


A different aspect of the proposal relates to a situation where an investment service is provided as a package deal. In such case, the investor must be informed of whether it is possible to buy the services separately and the price of the services if bought separately.


Increased protection of non-retail clients

The European Commission proposes for strengthen the investor protection framework for non-retail investors, as the distinction between retail customers, non-retail customers and authorised counterparties has not been sufficiently clear in MiFID. 


The member states may therefore choose to introduce specific criteria to clarify if municipalities and local public authorities, who request to be treated as professional investors, possess sufficient expertise and knowledge.


New requirements for trading facilities

The proposal introduces further requirements for professional traders to publish annual data on execution quality.


ESMA will draft provisions concerning the content of the publication of annual data and determine the format hereof.


Furthermore, all trading facilities where commodity derivative contracts are traded must establish a limit on the number of commodity derivative contracts each an investor may enter into during a certain period of time.


Companies from non-EU states

The proposal introduces a harmonised framework for the treatment of companies from non-EU states that wish to provide investment services within the EU.


In case the company wishes to provide services to retail customers, a branch must be established in a member state. Certain provisions of MiFID will govern the branch, e.g. provisions regarding investor protection and transparency. However, the companies shall be subject to a supervisory authority in their own country equivalent to the supervision under MiFID. Whether this requirement is met, is determined by ESMA.


Increased transparency

By introducing the OTF category, the proposal will improve transparency of trading activities in equity markets, including limiting “dark pools” (trading volumes or liquidity that is not available on public platforms). Furthermore, the proposal introduces the Approved Publication Arrangement (APA). The aim is to ensure the quality of information on OTC trading and hereby make this information more comparable to data published by the trading facilities.


The proposal further expands the transparency requirements to bonds, derivatives and CO2 quotas.


Revision of certain UCITS

Instruments issued by certain UCITS will no longer be considered non-complex financial instruments. These instruments will therefore no longer be available to customers in accordance with the execution-only rules. Certain Danish investment funds must therefore prepare risk profiles and undertake suitability and expediency tests before being allowed to sell their financial instruments pursuant to the execution only-rules.


Increased supervision

The proposed amendments to MiFID will strengthen the supervision of the regulating authorities. In collaboration with ESMA, the national supervisory authorities will have authority to suspend and ban specific products and service practices in case they pose a threat to investor protection, financial stability or the proper functioning of the markets.


The proposal will strengthen supervision on trading with commodity derivative contracts. The European Commission proposes that the supervisory authorities should be granted permission to monitor and intervene on all stages of trading activity in all commodity derivatives, including by limiting the number of commodity contracts, which may be owned, if there is a risk of unrest on the markets.


Passing of the proposal

The proposal has now been passed for negotiation and adoption in the European Parliament and the Council. The exact wording drafting of the amendments has not yet been finally determined.


If you have any questions or require any additional information on the above, please contact partner Dan Moalem (dmo@mwblaw.dk), attorney Christian R.J. Nielsen (crn@mwblaw.dk) or junior associate Maria Thomsen (mth@mwblaw.dk).

 

The above does not constitute legal counselling and Moalem Weitemeyer Bendtsen does not warrant the accuracy of the information. With the above text, Moalem Weitemeyer Bendtsen has not assumed responsibility of any kind as a consequence of a reader’s use of the above as a basis of decisions of considerations.



[1] COM(2011) 656 final

[2] Directive 2004/39/EC of the European Parliament and of the Council