MiFID II – key changes

On 15 May 2014, the Directive 2014/65/EU (“MiFID II”) and the Regulation 600/2014/EU (“MiFIR”), both on markets in financial instruments, were adopted, recasting the legal framework previously implemented by MiFID I. 

The Directive contains provisions governing the authorisation of the business, the acquisition of qualifying holding, the exercise of freedom of establishment and of the freedom to provide services, the operating conditions for investment firms to ensure investor protection, the powers of supervisory authorities of home and host Member States and the regime for imposing sanctions. On the other hand, the Regulation provides for trade and regulatory transparency requirements, product intervention powers of competent authorities, and requirement for third-country firms servicing professional clients. 

This new legislation aims at establishing a safer, sounder, more transparent and more responsible financial system that works for the economy and society as a whole. The key changes introduced to achieve these objectives are as follows: 

1. Scope

The scope of MiFID II is expanded, both in terms of the type of firms that will be subject to MiFID’s requirements (such as commodity traders, data reporting services providers and EU branches of third-country firms) and the types of financial instruments that are within the scope (such as structured deposits, commodity and exotic derivatives and emission allowances).  

2. Market structure framework 

In terms of market structure, MiFIR introduces: 

  • a new trading venue for non-equities, the organised trading facility (“OTF”), which is defined as any facility or system (other than a regulated market or multilateral trading facility (“MTF”) operated by an investment firm or operator that, on an organised basis, executes or arranges transactions based on multiple third-party orders (e.g. broker-crossing networks, inter-dealer broker system, system trading clearing-eligible derivatives); and is subject to the same core requirements for the operation of a trading venue as other existing platforms;
  • an obligation for all derivatives sufficiently liquid and eligible for clearing to be traded on eligible platforms (regulated markets, MTFs or OTFs); 
  • a harmonised EU regime for non-discriminatory access to trading venues and central counterparties (CCPs). 

3. Technological innovation 

MiFID II introduces new requirements for firms engaging in algorithmic and high-frequency trading, for those that provide their clients with direct electronic market access and for the regulated markets on which they trade. All must have effective systems and risk controls in place and report the activity to regulators.

4. Commodities 

MiFID II provides for strengthened supervisory powers and a harmonised position-limit regime for commodity derivatives. Under this system, competent authorities will impose limits on positions in accordance with the methodology for calculation to be set by ESMA and a position-reporting obligation by category of trader will apply. 

5. Transparency and transaction reporting 

MiFIR expands the existing pre- and post-trade transparency rules to equity like instruments (such as depositary receipts, exchange traded funds and certificates), to non-equities instruments (such as bonds and derivatives traded on trading venues) and to other trading venues (such as OTFs).

The quality and availability of post-trade information is addressed by the introduction of the Approved Publication Arrangement (APA) and the launch of a European consolidated tape. 

6. Investor protection 

MiFID II contains several measures designed to strengthen investor protection and therefore increase investor confidence.

  • “Independent”Advisors

    Financial advisors describing themselves as “independent” should carry out a market analysis sufficiently large and diversified in terms of products and issuers, and the advice must not be limited to financial instruments issued or provided by entities having close links with the investment firm.
  • Information to clients

    A firm providing investment advice must inform the client, in advance, whether (i) the advice is provided on an independent basis, (ii) it is based on a broad or more restricted analysis of different types of instruments, and (iii) it will provide the client with the on-going assessment of the suitability of the financial instruments recommended to the client. 

    When an investment service is offered together with another service or product as part of a package, the investment firm must inform the client of the possibility of buying the products separately, together with the associated costs and charges and the associated risks of buying the products together or separately. 
  • Reporting Obligations

    Investment firms must send communications and reports to clients taking into account the type and the complexity of the financial instrument involved and the nature of the service provided to the client. 

    If the firm provides portfolio management services to retail clients, it shall also communicate an updated statement to clients of how the investments meet the client’s preferences, objectives and characteristics.

    When providing investment advice to retail clients, the investment firm shall provide clients with a prior statement of suitability in a durable medium specifying the recommendation and how the advice given meets the personal preferences, objectives and characteristics of the client. 
  • Inducements

    Firms providing independent advice or portfolio management services will not be allowed to accept and retain fees, commissions or any monetary or non-monetary benefits paid by any third party in relation to the provision of the services to clients, with the exception of minor non-monetary benefits capable of enhancing the quality of services provided, not impairing compliance with the firms’ duty to act in the best interest of the clients and after a clear disclosure to them thereon.

    The previous regime regarding the inducements will continue to apply to firms providing other investment services. 
  • Execution-Only Services

    The definition of complex instruments is expanded, e.g. structured UCITS, and investment firms will thus be required to test the appropriateness of such instruments. 
  • Best Execution

    The investment firm must provide clients with its best execution policy through clear information, in sufficient detail and in a way that can be easily understood on how clients’ orders will be executed, and shall require clients’ consent on this execution policy.

    It must also publish annually the top five execution venues used the previous year for each class of financial instruments.

    Receiving remuneration, discount or non-monetary benefit for routing client orders to a specific trading or execution venue is prohibited.

7. Third-country access to the EU 

A third-country investment firm is allowed to provide services in the EU only if: 

  • it is authorised and supervised in its home jurisdiction; 
  • an equivalence assessment is made by the European Commission regarding the regulatory and tax regime of the non-EU firm’s home state; and 
  • information exchange arrangements and tax information exchange agreements are signed between the home supervisor and the competent authority in the relevant Member State. 

If the services are provided to retail or professional clients on request, the non-EU firm must establish a branch in each EU country in which it wishes to operate. 

If the services are provided to eligible counterparties or professional clients per se, the firm shall only be registered with ESMA and does not need to establish a branch in the EU. 

8. Others 

MiFID II sets out a new regime for recordings of telephone conversations and electronic communications. 

It also prohibits investment firms from concluding title transfer financial collateral arrangements with retail clients for the purpose of securing or covering present or future, actual or contingent or prospective obligations of clients.

Furthermore, it introduces the obligation for the directors of the management body of the investment firm to commit sufficient time to perform their duties and thus to limit the number of parallel directorships. 

Finally, it strengthens the existing regime to ensure effective cooperation between authorities and harmonised administrative sanctions in order to detect and deter breaches of MiFID II. 

9. Timetable

  • Entry into force on 2 July 2014.
  • Implementing measures of the European Commission and ESMA to follow.
  • National implementation for 3 July 2016 (MiFID II). 
  • Application from 3 January 2017.