ABBL

MiFID is the Markets in Financial Instruments Directive (Directive 2004/39/EC1). It replaces the Investment Services Directive (ISD) which was adopted in 1993. It was agreed unanimously by the Member States and by a large majority in the European Parliament, and came into force in 2008. It is a cornerstone of the EU's regulation of financial markets.

It seeks to improve the competitiveness of EU financial markets by creating a single market for investment services and activities, and ensuring a high degree of harmonised protection for investors in financial instruments, such as shares, bonds, derivatives and various structured products. MiFID has brought greater competition across Europe in the provision of services to investors and between trading venues. This has helped contribute to deeper, more integrated and liquid financial markets. It has also driven down costs for issuers, delivering better and cheaper services for investors, and contributing to economic growth and job creation in Europe.

MEMO/11/716 - 20 October 2011 - European Commission


 

The financial crisis was caused by multiple factors. The original objectives of MiFID were to improve the resilience of EU financial markets through free competition and high levels of market transparency and investor protection. To some extent these have been achieved. However, the full effects of MiFID are yet to play out. While it is true that the Directive has not entirely delivered on its objectives, it is mistaken to assign all developments, such as the growth of trading in newer trading functionalities (for example high frequency trading) and dark environments (for example all dark pools – see question 11) to MiFID. These have more to do with technological developments.

MEMO/11/716 - 20 October 2011 - European Commission

Revising MiFID is an essential part of ongoing structural reforms in the aftermath of the financial crisis. These are aimed at establishing a safer, sounder, more transparent and more responsible financial system that works for the economy and society as a whole. The main objectives of the revision are:

More robust and efficient market structures: MiFID already covered Multilateral Trading Facilities and regulated markets, but the revision will now bring a new type of trading venue into its regulatory framework: the Organised Trading Facility (OTF). These are organised platforms which are currently not regulated but are playing an increasingly important role. For example, standardised derivatives contracts are increasingly traded on these platforms. The new proposal will close this loophole. The revised MiFID will continue to allow for different business models, but will ensure all trading venues have to play by the same transparency rules and that conflicts of interest are mitigated.

In order to facilitate better access to capital markets for small- and medium-sized enterprises (SMEs), the proposals will also introduce the creation of a specific label for SME markets. This will provide a quality label for platforms that aim to meet SMEs' needs.

Taking account of technological innovations: Furthermore, an updated MiFID will introduce new safeguards for algorithmic and high frequency trading activities which have drastically increased the speed of trading and pose possible systemic risks. These safeguards include the requirement for all algorithmic traders to become properly regulated, provide appropriate liquidity and rules to prevent them from adding to volatility by moving in and out of markets. Finally, the proposals will improve conditions for competition in essential post-trade services such as clearing, which may otherwise frustrate competition between trading venues.

Increased transparency: By introducing the OTF category, the proposals will improve the transparency of trading activities in equity markets, including "dark pools" (trading volumes or liquidity that are not available on public platforms). Exemptions would only be allowed under prescribed circumstances. It will also introduce a new trade transparency regime for non-equities markets (i.e. bonds, structured finance products and derivatives). In addition, thanks to newly introduced requirements to gather all market data in one place, investors will have an overview of all trading activities in the EU, helping them make a more informed choice.

Reinforced supervisory powers and a stricter framework for commodity derivatives markets: The proposals will reinforce the role and powers of regulators. In coordination with the European Securities and Markets Authority (ESMA) and under defined circumstances, supervisors will be able to ban specific products, services or practices in case of threats to investor protection, financial stability or the orderly functioning of markets.

The proposals also foresee stronger supervision of commodity derivatives markets. It introduces a position reporting obligation by category of trader. This will help regulators and market participants to better assess the role of speculation in these markets. In addition, the Commission proposes to empower financial regulators to monitor and intervene at any stage in trading activity in all commodity derivatives, including in the shape of position limits if there are concerns about disorderly markets. The G20 Summit in Cannes on 3 and 4 November will also address the issue of commodity derivatives.

Stronger investor protection: Building on a comprehensive set of rules already in place, the revised MiFID sets stricter requirements for portfolio management, investment advice and the offer of complex financial products such as structured products. In order to prevent potential conflict of interest, independent advisors and portfolio managers will be prohibited from making or receiving third-party payments or other monetary gains. Finally, rules on corporate governance and managers' responsibility are introduced for all investment firms.

MEMO/11/716 - 20 October 2011 - European Commission

Much of the trading currently being carried out outside of the MiFID venues, on a so-called over-the-counter basis, takes place on alternative types of platforms operating in the market such as broker crossing networks. The MiFID review proposes to introduce a new category of platform to adequately regulate all kinds of organised trading and to level the playing field in the EU. More specifically, the Commission proposes to introduce the new category of an organised trading facility (OTF), which will be subject to the same core requirements for the operation of a trading venue as other existing platforms. This new type of platform is defined in a broad way, so that it captures all forms of organised trading not matching the existing categories.

So-called crossing networks (systems operated by investment firms which mainly internally match client orders) would be one of the venues captured under this new category.

As a result, all organised trading, in other words trading which takes place in a system, which currently takes place outside of regulated venues will in the future be conducted on regulated venues.

Systematic internalisers also make up a share of trading outside platforms. They are investment firms who deal with their clients in an organised way, in other words any trading which goes beyond ad hoc deals. For standardised derivatives, there will be a requirement to trade them on organised venues. Trading in such derivatives will thus no longer take place outside of regulated venues. Only ad hoc trading in shares, bonds, and non-standardised derivatives will continue to be allowed to take place OTC.

MEMO/11/716 - 20 October 2011 - European Commission

Small- and medium-sized enterprises (SMEs) across Europe make a significant contribution to economic growth, employment, innovation and social integration. Two main sources of funding for such companies are private financing by banks or other institutions or raising finance through capital markets (e.g. the issue of shares). SME markets aim at providing smaller, growing companies with a platform to raise capital both through initial offerings and ongoing fund raisings. However, not all these markets have been successful.

In order to make SME markets more attractive to small companies and to investors, the Commission proposes a proportionate regime specifically designed for SME markets. This specialised regime could promote the creation of a network of markets specialised in SMEs. The rules applicable to these markets will ensure that investors have sufficient information about the listed companies at all times.

MEMO/11/716 - 20 October 2011 - European Commission

In all markets, buyers need to know what sellers are asking and vice versa. However, wholesale transactions are frequently carried out at non-public prices. The same applies to financial instruments. Therefore, "dark pools", or platforms where trading interests interact without full pre-trade disclosure to other users or the public, are a common feature of financial markets. It is proposed to continue to allow them but only as long as they do not cause competitive distortions and reduce the overall efficiency of the price discovery process. Limited cases where transparency can be waived, and for how long, will need to be precisely defined. Such waivers are necessary, for instance, protect investors selling large quantities of shares. Having to disclose such a large order would move the market down, which would mean they would sell at worse prices. As transparency rules are extended to other instruments, it is foreseen to also introduce the possibility, in the regulation, of waivers specific to these, taking account of the nature of trading and of the participants in the different asset classes. The specific conditions under which waivers may operate would, as for shares today, be defined in implementing measures once the regulation is approved.

Finally, the introduction of the new organised trading facility category will vastly improve pre-trade transparency in the case of trading activity currently taking place in the dark, by subjecting these platforms to the same transparency conditions as other venues.

MEMO/11/716 - 20 October 2011 - European Commission

Currently, MiFID imposes harmonised pre-and post-trade transparency requirements only on shares admitted to trading on regulated markets. The Commission proposes to introduce pre- and post-trade transparency requirements for other instruments as well. Due to the different structure of markets in non-equity instruments compared with those in equities, it is proposed to tailor the exact transparency regime to the instrument in question.

Post-trade requirements, to be specified in further detail in implementing legislation, are suggested for all bonds and structured finance products with a prospectus as well as all derivatives eligible for central clearing and those submitted to trade repositories regardless of where the trades take place. Pre-trade requirements, also to be further detailed in implementing legislation, are suggested for the same instruments both when traded on organised venues as well as when offered by investment firms in over-the-counter tradingre.

The reason for the introduction of pre- and post-trade transparency requirements for these instruments is that the absence of harmonised transparency requirements in non-equity markets (e.g. bonds, structured products, derivatives) has been perceived by many, including EU securities regulators, to lead to lower market efficiency and higher risks than would otherwise be the case.

MEMO/11/716 - 20 October 2011 - European Commission
 

ESMA already plays an important role in advising the Commission on possible regulatory changes and in ensuring convergent application of the rules across Member States. Many of the proposed changes in the MiFID review stem from advice received from ESMA, and it is foreseen that it will play a major part in developing most of the technical implementing measures necessary to ensure the full functioning of the regulatory framework.

In terms of specific supervisory tasks, ESMA will have an increased role in, for example, determining the conformity with MiFID of individual cases where venues propose to waive pre-trade transparency ("dark pools"). In accordance with the mandate defined in the ESMA regulation and in line with the proposed powers for ESMA in the Commission proposal for a regulation on short-selling and certain aspects of credit default swaps, It will also take any steps necessary to coordinate actions by national competent authorities regarding products considered risky from the point of view of investor protection or financial stability as well as regarding positions in derivatives by specific market participants deemed excessively large.

MEMO/11/716 - 20 October 2011 - European Commission

MiFID includes a number of measures aimed at protecting investors in the context of the provision of investment services. Those rules take into account the type of services (for instance, investment advice or execution of orders) and the classification of clients, with higher protection granted to retail clients. The MiFID rules include both conduct of business requirements (for instance, collecting sufficient information to ensure that the products provided are suitable or appropriate for the client) and organisational requirements (for instance, requirements to identify and manage any conflicts of interest).

However, modifications and improvements are clearly needed to strengthen the framework for the provision of services.

First, the scope of the directive should be broadened in order to cover financial products, services and entities which are currently not covered (for instance, structured deposits in line with the Commission's forthcoming initiative on Packaged Retail Investment Products early next year).

Second, conduct of business requirements should be modified in order to grant additional protection to investors. The rules for investment advice should be improved both when advice is provided on an independent basis and in the long term. Advisers declaring themselves as independent should need to match the client's profile and interests against a broad array of products available in the market while investors should be informed whether they can expect firms to monitor the suitability of advised products in the longer term. Independent advisers and portfolio managers should be prohibited from making or receiving third-party payments or other monetary benefits. The conditions for services where investors receive less protection from firms should be more limited and information to different categories of client should be enhanced, particularly when complex products are involved.

Third, organisational requirements for the provision of services to investors should be strengthened. For instance, the involvement of senior management in the design of the firm's policies as to how products and services may be sold or provided to their clients, and the adoption of adequate internal controls should be consolidated.

ESMA should also help to ensure an equal application of investor protection requirements across Europe.

MEMO/11/716 - 20 October 2011 - European Commission

On the emission allowances market, not only are the allowances themselves traded, but allowance derivatives are also traded. It is the latter that forms the largest part of the market. Trading in allowance derivatives already falls under the scope of MiFID and the Market Abuse Directive.

By now bringing emission allowances under the same framework, the regulation on emission allowances trading (EUA) on the spot market would finally be aligned with what is already applicable to the EUA derivatives market. Together, MiFID and the rules on market abuse provide a comprehensive framework for the trading in financial instruments and the integrity of the market. The extension to EUAs will introduce greater security for traders of EUAs but without interfering with the purpose of the market, which remains emissions reduction. For more information on this point, see also MEMO/11/719.

MEMO/11/716 - 20 October 2011 - European Commission

As in other pieces of EU financial services regulation, the split reflects the need to achieve a uniform set of rules in some areas, while allowing for national specificities in others. The De Larosière report highlighted that one of the problems leading to the crisis was an inconsistent implementation of financial services rules leading to a fragmented internal market.

As a result, a regulation is proposed setting out requirements on:

  - the disclosure of data on trading activity to the public and transaction data to regulators and supervisors;
  - the mandatory trading of derivatives on organised venues;
  - removing barriers between trading venues and providers of clearing services to ensure more competition,
   - and specific supervisory actions regarding financial instruments and positions in derivatives.

Such a harmonised approach will help avoid confusion in the daily functioning of markets, and minimise opportunities for harmful regulatory arbitrage between Member States.

The directive amends existing provisions on authorisation and organisational requirements for providers of investment services, and all rules regarding investor protection, including for firms located in third countries but actively engaged in EU markets. Also included in the directive are the authorisation and organisational rules applicable to different types of trading venue, providers of market data and other reporting services, as well as the complete powers to be granted by Member States to national competent authorities, including the framework of sanctions for breaches of the rules. These provisions are best situated in a directive to account for differences in national markets and legal structures as well as the profile of local investors.

MEMO/11/716 - 20 October 2011 - European Commission
 

Many provisions of MiFID reflect core precepts in the regulation of securities markets globally. However, different jurisdictions have rules specific to their own markets. As regards the US, MiFID touches upon various pieces of US financial markets regulation such as the Securities Exchange Act and the Commodity Exchange Act, as well as many of the technical regulations stemming from these: Regulation National Market System, Regulation Alternative Trading System, the Investment Advisers' Act and rules applied by "self-regulatory organisations" such as the main securities exchanges and the Financial Industry Regulatory Authority.

Like the Dodd-Frank Act, which amends and supplements these texts in several ways, the review of MiFID both amends provisions already in force and adds to them in light of the financial crisis and other market developments. The most visible area of common ground concerns the overhaul of regulation of derivative markets, including commodity derivatives. In many areas, such as comprehensive regulation for professional participants in derivative markets and the regulation of alternative electronic exchanges, the changes in MiFID are less significant than those in the US, as similar provisions did not yet exist before the Dodd-Frank Act. In other areas, such as the regulation of commodity derivative markets, US regulation was more developed and the revision of Mifid allows Europe to catch up.

The Commission's proposals are in line with the principles of regulation established by the International Organisation of Securities Commissions (IOSCO). This will ensure convergence with other jurisdictions, including Australia, Asia, and South America.

The proposals in the revised MiFID complement those in the Commission's September 2010 proposals for increasing transparency and safety in derivative markets (EMIR) and, once in force, will ensure comparable rules for trading, clearing and reporting derivatives in the EU and US.

MEMO/11/716 - 20 October 2011 - European Commission

While the review of MiFID, as well as the roll-out of other regulatory changes such as EMIR in the EU and Dodd-Frank in the US, coincides with the proposed merger, the proposed changes are not targeted at or conditioned by any one commercial venture. Since the beginning, a key objective of MiFID has been to ensure robust competition on a level playing-field between trading platforms. This includes removing obstacles to essential post-trade services such as clearing, which may otherwise frustrate competition between venues. The proposed changes in the review thus seek to further tackle existing barriers to effective competition between trading venues and clearing service providers.

The examination of the merger on competition grounds is carried out independently of the review of MiFID by the Commission's Directorate-General for Competition.

MEMO/11/716 - 20 October 2011 - European Commission