MiFID II

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Markets in Financial Instruments Directive

White Paper - International Swaps and Derivatives Association & Clifford Chance: Regulation of OTC derivatives markets A comparison of EU and US initiatives

European Swaps Regulation - Comment Letter - European Central Bank - January 11, 2011

ESMA Regulation - White Paper - Guidelines on systems and controls in a highly automated trading environment for trading platforms, investment firms and competent authorities

MiFID II, or Markets in Financial Instruments Directive II, or MiFID Review is a massive regulatory reform for financial markets in the European Union that came into effect on January 3, 2018.

The directive, with more than 30,000 pages of rules, aims to make European markets more transparent, efficient and safer for users. In the aftermath of the 2008 Global Financial Crisis, European legislators and regulators wanted to help restore customer confidence in the financial system by moving more financial instruments from the over-the-counter market onto listed and cleared markets. This is the second version of the MiFID directive, the first version of which was launched by the European Commission on November 1, 2007.

MiFID II applies to virtually every market and every participant, including: banks, exchanges and trading venues, fund managers, brokers, pension funds, retail investors as well as all intermediaries who connect buyers and sellers.

MiFID II covers multiple markets including: commodities, currencies, derivatives, equities, bonds, exchange traded products and FX. One of several main goals for MiFID II is to make markets more transparent by making prices available before and after trades are executed, and by showing how those prices compare with other markets. The goal is to ensure that customers are getting the best price on the financial instruments they are trading. This also means brokers, exchanges, and in some cases end-user customers will be required to provide more data to regulators.

An area of MiFID II that has been contentious is the regulation of market research. With stocks, for example, banks who have long provided clients with research on various companies, and those prices were combined with account or trade execution costs for customers. Under MiFID II, banks now must separate their equities research from securities trading, a move which is called unbundling.

It is estimated MiFID II will cost the financial industry €2.5 billion to implement, with the largest banks spending an estimated €40 million each.

Background

Tracing MiFID II back to its beginning, the European Commission decided a review was required of the MiFID framework to tackle some of the issues missed by the original document. On October 20, 2011, the EC published proposals for 1) a revised directive, now known as MiFID II and 2) a new regulation called Markets in Financial Instruments Directive.

The Committee on Economic and Monetary Affairs agreed unanimously to introduce MiFID II to the European Parliament on September 25, 2012, and Parliament later approved the measure. The European Securities and Markets Authority (ESMA) published the "final" drafts of 28 technical standards, (although many alterations would be made in the next several years) on September 28, 2015. The regulatory technical standards, also known as RTS, apply to EU member states and are legally binding.

The original launch date for MiFID II was January 2017, but the European Commission in February 2016 pushed the date back to January 3, 2018, due to a number of issues that would have prevented the publication of the regulatory technical standards. ESMA, for example, had concerns it would not have time to build the necessary systems to collect data from about 300 trading venues that include about 15 million financial instruments.

On January 3, 2018 the directive began and marked the largest change to Europe's markets since MiFID. The goal was to establish new rules to improve investor confidence and strengthen the financial markets.

There were some notable, last minute exemptions extending to 2020 regarding the open access regime granted to ICE Futures Europe, London Metal Exchange and Eurex by UK and German regulators. Open access refers to the ability to use exchanges' services indiscriminately - for example, trading one on exchange while clearing with another central counterparty.

Another delay involved dark pools, run by various institutions such as Goldman Sachs and UBS. ESMA delayed regulations on those venues as it reassessed identifying exactly which stocks would be affected by the MiFID rules on equities. Dark pools in Europe accounted for about 8 percent of total equity trading volume, as of January 2018, according to Thomson Reuters.

Summary and Key Elements of MiFID II

• New price transparency requirements on prices so investors can ensure they are getting the best price.
• More types of trades must be reported in a standard format, which allows regulators to detect market abuses and allows market participants to point out poorer prices.
• Telephone trading is replaced by electronic platforms in bonds and off-exchange derivatives.
• Internalization of orders by large institutions on buy and sell orders on stocks will be more strictly regulated.
• High-frequency trading rules were updated.
• ESMA can restrict or ban "harmful" financial products.
• Banks and advisors must be clear on which type of investor is qualified to trade certain products to avoid high-pressure tactics.
• Asset managers must tell customers who pays for stock research from banks.
• There will be volume caps on dark pool or off-exchange trading - which was delayed in January 2018.
• Position limits on how much of a commodity a broker can hold to avoid undue moves in a market.