31 January 2012

FESE position on the MiFID II proposal

FESE’s positions on the MiFID II Review are a result of the wealth of experience and detailed knowledge of the markets and of the activities and services provided by FESE members. In particular:

• FESE members and the financial instruments traded on their markets are fully covered by MiFID provisions. FESE members are committed to a sound regulatory framework.
• FESE members’ business has been radically influenced by MiFID I, which opened many of their services to full competition. FESE members support open and fair competition on level terms.
• The financial crisis has shown the strength of regulated market infrastructures and the importance of the safeguards provided on FESE members’ platforms. The gaps identified as a result of experience of MiFID I and of the crisis should be addressed as part of the review of MiFID to ensure ongoing provision of orderly markets.

FESE has spearheaded a major industry initiative to improve data standards ahead of the MiFID II Review, and FESE members have pioneered many of the cost reduction measures later proposed by the Commission on data, thus pro‐actively supporting the set‐up of a consolidated post‐trade tape. FESE members welcome the Commission’s proposals and fully endorse the objectives supporting the revision of MIFID, as indicated in their joint press release with investors.

In particular, they support:

• recognition that Europe’s main legislation on trading should ensure that all the market participants active in trading ultimately serve the real economy, as identified by Commissioner Barnier. FESE members believe that the Review covers many valuable areas which however require further clarification and change to help the functioning of the markets in the service of the real economy (investors and companies);
• the Commission’s overall approach to ensure that qualifying OTC derivatives are traded in a well regulated environment, which is in line with the G20 recommendations, and believe this should be implemented clearly. However, standardised OTC derivatives should only be traded on platforms complying with all the multilateral trading rules (therefore FESE members do not believe Organised Trading Facilities as proposed should be part of the acceptable venues);
• proposals to extend transparency requirements to bonds and derivatives. These should be appropriately calibrated and the details set in implementation should leave no doubt that all asset classes will benefit from transparency;
• policies aimed at greater investor protection. FESE members support proposals that will improve the protection of all clients as well as clarifications made to the classification of clients;
• planned improvements to transaction reports, as they believe supervisors need more tools to monitor the markets. FESE has been a supporter of the transaction reporting regime from the beginning and welcomes the extension in the scope of instruments covered and harmonisation of these reports (with the exception of extending the obligation to trading venues, which it believes goes against the objective of transaction reporting);
• measures to ensure the transparency and supervisory oversight of commodity markets. FESE members in particular welcome the inclusion of measures equivalent to position limits in recognition of the diversity of markets and different ways of achieving the regulatory goals;
• proposals designed to ensure that the fragmented trading environment produces data which is capable of consolidation in a competitive environment. FESE members especially welcome the procompetition framework for consolidating the data and the improvements to the main stumbling block to consolidation, which concerns the availability, quality, reliability of OTC data and its comparability with other sources of data;
• the fact that the Review rightly accepts technological advances in trading speed as fact, and includes mostly sensible solutions to reduce the systemic risks, counter potential of market abuse, and ensure fair treatment of clients. FESE members broadly welcome most of the proposals on high frequency trading (with the exception of the continuous quoting obligation), and believe that they are complementary with safeguards already provided by FESE members on their platforms;
• the proposal for the creation of a special type of MTF for SMEs meets with FESE's qualified support. The creation of a special MTF label is not likely to change the main obstacle faced by SMEs, the lack of scale to attract institutional investors. However, as long as this MTF label is not mandatory and is designed flexibly, FESE members have no objection to it;
• harmonisation of the third Country regime. The EU should open its doors to investment firms, exchanges, CCPs and CSDs, etc. from outside the EU only on the basis of reciprocity and equivalence. FESE members therefore welcome the introduction of a clear third country regime within MiFID based on these principles but believe it should be significantly more comprehensive than has been proposed (in particular by including a framework for a regime for trading venues).

The above summary demonstrates that FESE agrees with many of the improvements proposed by the Commission. At the same time, on a number of other issues, FESE has significant concerns with the proposals. FESE members have been active in analysing the implementation issues with MiFID I and have brought several items to the attention of the Commission or the supervisors over the last years which has led to some of the important issues being highlighted in the Review (e.g. the unregulated equity platforms). While the broader industry appears united in endorsing the Commission’s overall objectives in the MiFID Review, there remains controversy regarding some elements of the proposals.

This is ultimately because industry participants view the implementation of MiFID differently and draw different lessons from the crisis. The Commission has understandably tried to balance these differences and has tried to find compromises across differing views. However, FESE firmly believes that the outcome needs to be stronger than a compromise solution, as the final legislation will determine the ground rules on how capital markets function in the real economy for the foreseeable future. FESE members therefore think that the final legislation should be less complex, more concise and more ambitious than the Commission has currently proposed. Additionally, they strongly believe that the provisions of MiFID should be aligned with other legislation with which it might overlap (e.g. EMIR/RCSD/MAD) and avoid any uncertainties or arbitrage among market participants, CCPs, and trading venues.

Therefore, FESE proposes the following changes to the proposals, which, if adopted, would provide welcomed additional clarification and strengthen the draft legislation:

• There should be a clear definition of OTC. EU law should draw a clear distinction between activities that must be subject to full trading platform rules (i.e. trading venues – RM/MTF/SI) and those that should remain outside and subjected to intermediary rules only (i.e. OTC). This distinction should be in the form of a ‘definition of OTC’ and included in the main body of the legislation (Article 2 of MiFIR), not in a recital, to ensure full compliance. In the future, no platform should be able to conduct trading platform business while being exempted from trading venue rules. Experience with the original MiFID has shown that a clear and legally binding definition is necessary to achieve this goal. This OTC definition should be accompanied by clearer definitions of each type of trading platform.
• MiFID Review should maintain the existing protections designed for all types of trading platforms. In particular, multilateral trading of equities, bonds and standardised derivatives should only happen on platforms that provide identical transparency, non‐discretionary execution, non‐discriminatory access, and full market surveillance capabilities. The creation of an OTF as currently proposed would make two of these protections optional for the market, since some platforms (RM, MTF) would continue to be subject to all four measures, whereas OTFs would not have to provide either non‐discretionary execution or non‐discriminatory access (while potentially being held to a lower standard of market surveillance). This would have grave consequences for the quality of market regulation (as measured by proper price formation, efficiency, and fairness) as well as fair competition among trading platforms. FESE therefore fundamentally disagrees with the view that any type of multilateral trading platform, old or new, should be exempted from these core four regulatory obligations.
• Systematic Internalisers (SI) should remain classified as “regulated” trading venues and not moved into the OTC classification. FESE accepts that the SI regime should continue to be calibrated to reflect the risk assumed by the investment firms operating these platforms and therefore remain “regulation light”. However, FESE believes that OTC should remain an exemption from SI (i.e. bilateral trading should be considered as SI unless it falls into the OTC definition), as is the case in the current MiFID, rather than the reverse proposed in the new text (i.e. all SI being considered as OTC unless it is systematic, etc.).
• Conflicts of interest arising from the combination of roles of investment firms should be better managed. As with RMs, which are subject to extensive conflict of interest rules, investment firms operating MTFs should be subject to strict conflict of interest rules. In addition, all organisational requirements should also be aligned with RMs.
• Standardised OTC derivatives should only be traded on platforms complying with all the multilateral trading rules. FESE strongly supports the implementation of G20 by requiring to trade derivatives on well‐regulated trading venues. However, we believe this objective is not served if the venues for this purpose include venues that are not subjected to the key regulatory requirements of multilateral trading, i.e. the OTF as currently proposed. FESE therefore objects to the inclusion of this less‐regulated platform in the implementation of the trading mandate for standardised OTC derivatives.
• The requirement for algorithmic trading to provide continuous quotes throughout the day may have detrimental effects on liquidity and may not always reflect the business model of the investment firms conducting this activity. FESE would propose that this requirement be removed from legislation and that the trading platforms be allowed to utilise existing controls to manage this business.
• Regulation relating to access for CCPs and trading venues and benchmarks must not affect the overall safety and competitiveness of EU markets negatively. FESE recommends that these issues be studied further, as they have not been part of the MiFID consultation, to ensure that measures proposed do not result in negative or unintended consequences.

Full position

© FESE