MiFID II campaign 2017 by Mediaplanet UK&IE

AN INDEPENDENT SUPPLEMENT BY MEDIAPLANET SEPTEMBER 2017 BUSINESSANDINDUSTRY.CO.UK BVCA The impact on private equity and venture capital firms P02

AFME The need for more clarity around MiFID II P04

FIA Industry working together for “day one” compliance P06

MiFID II PHOTO CREDIT: THINKSTOCK

After seven years of discussions resulting in over 2,000 pages of European legislation and guidance, MiFID II will take effect on 3 January 2018. This date will mark a significant evolution in financial services for retail and wholesale consumers in the UK and Europe.

iFID II is intended to produce a safer, more transparent and more responsible financial system, facilitate competition and help to restore investor confidence in the wake of the financial crisis. These objectives are all priority areas for us at the FCA, as reflected in our Mission and Business Plan. We believe that the successful implementation of MiFID II will help us to achieve good outcomes for UK financial markets, which support consumers and the wider economy. MiFID II affects many aspects of the regulatory regime for both retail and wholesale investment business. Several of the conduct changes in MiFID II go with the grain of work we have already been doing in the UK. We have already sought to effect change in the way that firms

incentivise their sales staff, control the manufacturing and distribution of financial products and to stop product providers determining the remuneration of financial advisers. In these areas and others, UK firms should already be well on the way to meeting the MiFID II standards. In other areas there is more radical change. There is a big agenda of change in the structure and rules for the trading of financial instruments. This includes restrictions on the ‘dark’ trading of shares, greater transparency in the trading of bonds and the setting of position limits for all commodity derivatives contracts traded on trading venues. There is a package of measures to increase resilience in markets characterised by widespread use of algorithms. Investment managers, sellside firms and trading venues are all updating their systems and the way

Mark Steward Director of Enforcement and Market Oversight, the Financial Conduct Authority

they do business to adapt to these changes. We are investing in our systems to prepare for the new transaction re-

porting regime. The reports we will receive on a daily basis will cover a broader range of financial instruments and will significantly enhance our ability to detect and prosecute the most harmful forms of market abuse. Inevitably, given the breadth and depth of MiFID II, firms have had many questions about the legislation. We have contributed to European work on the interpretation of the legislation. Also we have spent a lot of time talking to firms individually and collectively about the legislation to help them understand their obligations. Firms are putting in significant work and resources to achieve compliance both individually and through industry associations. We commend the efforts they are making. Our focus is on ensuring firms have put the work into implemen-

tation in a thoughtful manner and that they have the foundations in place for day one. For example, the right regulatory permissions to operate and the ability to fulfil transaction reporting requirements, including making sure they and their clients have Legal Entity Identifiers (LEIs). We will not be seeking to catch them out on the fine detail of what they have done. The full effect of MiFID II will take its time to work through. Change will continue after 3 January 2018 as different parts of the legislation take their full effect and firms recalibrate what they have done in response to changes in the wider market. No doubt, we will all learn from the experience and identify ways to improve the operation of MiFID II. The FCA is fully committed to working with firms to achieve sensible outcomes.

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MiFID II and the private equity and venture capital industry When discussing how EU regulation impacts private equity and venture capital firms, it is natural to refer to the Alternative Investment Fund Managers Directive (AIFMD) but the Markets in Financial Instruments Directive II (MiFID II) is also significant.

any firms across both the private equity and venture capital industry fall within the scope of MiFID II due to the regulated activities they undertake. Other UK firms are affected because the UK has decided to apply some parts of MiFID II to a wider group of financial services firms. The global nature of the UK’s private equity and venture capital industry, the second biggest hub after the US, means that a large number of UK private equity and venture capital firms will be affected by MiFID II. This is why the BVCA has been active in seeking to ensure that as MiFID II was developed, its implementation reflected the distinct nature of private equity and venture capital transactions. MiFID II comes into effect in January 2018. The BVCA’s Regulatory Committee, which includes a broad range of member firms, has represented industry concerns to the FCA throughout the implementation phase in the UK. Whilst many of MiFID II’s provisions will affect the in-

dustry, we focused on industry-specific matters covering classification of local government pension scheme (LGPS) investors, payment for research, best execution and record keeping.

Local Government Pension Scheme (LGPS) LGPS investors invest in many private equity and venture capital funds and are an important source of funding. MiFID II re-classifies LGPS as retail clients unless firms can opt them up to a professional client status (which is more proportionate for institutional investors). The EU-level opt-up procedure on its own would have been difficult for LGPS investors to pass as it is not designed for local authorities running LGPS. The FCA has provided some helpful clarifications and the BVCA worked with the Local Government Association and other investment managers on a standardised opt-up template and process which can now be used by LGPS to help reduce the administrative burden of this re-classification.

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Gurpreet Manku Assistant Director General, BVCA

Firms will be required to price and account to their clients for execution and research services as separate items, and MiFID II imposes detailed requirements on how to do this. The draft rules were designed to address concerns in the market for trading listed equities. The FCA had proposed that they apply also to private equity and venture capital transactions and we raised concerns that these proposals would not work in this context. The FCA’s final rules now reflect the different structure of private equity and venture capital investment. Similarly, the rules on best execution - the obligation to execute clients’ transaction orders in the clients’ best interests – have been implemented more logically for our members’ activities.

Communication Recording MiFID II also requires firms to record telephone conversations and other communications that relate to transactions concluded by MiFID firms, the objective being to help the FCA monitor compliance with market abuse

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and conduct standards. Whilst this requirement is not new in the UK, the FCA had initially consulted on extending it to a broader range of firms including non-MiFID firms such as private equity and venture capital fund managers. The FCA has listened to our concerns about this extension and there is now an exclusion for non-MiFID firms when dealing in unlisted securities. This makes sense as these transactions take place over a longer period of time with a significant amount of diligence. MiFID II is an extensive piece of legislation and firms are spending a substantial amount of time on its implementation. The FCA has re-stated its commitment to regulating in a proportionate, conduct-riskbased manner and the BVCA is currently working through the application of the detailed rules with the FCA and member firms. Read more on businessandindustry. co.uk

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MiFID II: The beginning of research price discovery SPONSORED

here is currently considerable confusion surrounding investment research pricing and large price ranges for services are emerging with some very public announcements. We have now seen many research producers lay down their initial markers on pricing and fee structure but despite vast differences between them we are extreme-

ly encouraged that the process of price discovery has now begun. We are under no illusion that this process will take time but as in any industry, the need for clear measurement of services is vital for the demonstration and creation of value for any product. And so, MiFID II’s research unbundling requirement is the catalyst needed to better enable value creation and value discovery in the research space. The potential for research providers to create value is unquestionable; we have spoken to hundreds of asset management firms, and broadly speaking, it is clear that without external research providers they would be at a considerable disadvantage. The investment horizon is too large, too varied and evolves too quickly for all research to be cre-

Charlie Henderson Managing Director and Co-founder.

ated in-house effectively. However, it is also clear that the amount of value that research providers can create can be unclear for both the producers and the consumers. Both sides need to accurately measure where value is being generated both internally and externally, and where the demand is and will be, to ensure the efficient production and consumption of research products. We are at the beginning of a journey towards price discovery where historically there has never been a need for it. For any market that requires a price for a good or service to transact, it is essential that both sides have accurate consumption metrics which will allow those who provide value to reflect this in price. Free market forces will sculpt the

research products of tomorrow, for the good of the entire market. There is a surplus of latent intellectual capital within the research producers. The process of price discovery initiated by MiFID II will allow this talent to emerge and to be fairly compensated for the work they produce, benefitting all sides involved. Research is like any other service: you pay for value. All you need are the tools to understand this, FeedStock provides these.

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Voice trading under MiFID II: debunking myths SPONSORED

There is a common misconception that MiFID II will put an end to voice trading. Although the rise of electronic trading continues to be witnessed across all asset classes, even in highly electronic markets, voice communications and trading remain a dominant execution channel. MiFID II is merely going to accelerate the speed at which voice trading will be supplemented by electronic processes. Electronic trading is typically defined as leveraging a “digital pat-

hway” for execution. Electronic order routing, electronic requests for quotes and direct market trading on a venue or a central limit order book are all thought of as electronic trading. However, voice communications play a role even when trades are routed through electronic channels.

Best Execution Under MiFID II, brokers will have to comply with new obligations when dealing on own account. The record-keeping and best execution requirements mean that they will have to time stamp four key stages of the execution process: first, the reception of a client inquiry, second, when a price (actionable indication of interest) is sent back to the client and pre-trade

Gary Stone Regulatory Analyst and Market Structure Strategist at Bloomberg L.P.

transparency reported (if applicable), third, when the client accepts or declines, fourth, when the trade is confirmed and post-trade transparency is reported (if applicable). This will accelerate the electronification of the voice workflow. The time stamps will have to be captured in digital format for data capture and storage, best-execution analysis and trade surveillance. Bloomberg is in the middle of this evolution and provides digital capture of data across firms’ entire voice and salestrading workflow.

Voice Workflow Read more on bloomberg.com/mifid

While voice doesn’t need to go away because of MiFID II, it also won’t disappear simply because it’s critical for illiquid assets such as fixed income. ESMA noted, in its opinion on

the draft non-equity transparency rules, that approximately 300 bonds will be liquid enough to be subject to trade transparency at the initial stages of the phase- in. The vast majority of bonds don’t trade or only trade a handful of times a year. They won’t be traded with algorithms; human perspective and relationships, certainly augmented with new technology, will still be needed. There is no doubt that fixed income and derivatives trading is evolving in a similar direction as equities and foreign exchange, although in doing so it will retain many unique characteristics. But even for the most electronic of all asset classes, the components of voice trading: capital commitment, working orders and execution consulting, haven’t gone away.

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Wholesale banks struggle with a lack of clarity The Association for Financial Markets in Europe broadly supports the policy objectives of the EU, but highlights the need for more information to help members to prepare properly. By Steve Hemsley

urope’s wholesale financial markets risk being hampered by a lack of clarity around the revised MiFID II regulation, claims the Association for Financial Markets in Europe (AFME). The AFME says the imprecision of the MiFID II/MiFIR text has hampered bank’s implementation projects and could impact markets, liquidity and investor choice around equities, fixed income and derivatives.

Preparation This is one of the most wide-ranging shake-ups of the European trading landscape and Julian Allen-Ellis, director of MiFID at AFME, says wholesale banks have prepared as best they can. “Wholesale banks are used to regulatory change and adept at dealing with uncertainty but there are just 100 days before the changes are to be implemented and the industry is left debating key interpretive issues in the text,” he says. He adds that the AFME supports the overarching policy objectives of the MiFID review but the Association’s steering committee still has some fundamental concerns.

Members report solid progress on their implementation and readiness programmes despite a number of open issues. AFME is supporting members’ MiFID implementation with continuing advocacy activity and supporting industry consensus on outstanding priority issues including systematic internaliser activity and identification; the share trading obligation; investment research and inducements; post-trade reporting; deferrals; and cost and charges issues. Among the many remaining questions and issues around the systematic internaliser regime, the availability of high quality, sufficiently granular static data, integral to determining post-trade reporting responsibility, is particularly vexing. It is fundamental to know which legal entity is an SI on a security by security basis to determine who has the responsibility to perform single-sided post-trade reporting. The proper source of this information should be European Securities and Markets Authority (ESMA). However, ESMA and the Commission envisaged the emergence of an industry source. The fragmented landscape of APAs across the Union means this industry remains elusive. “The problem is that ESMA is not capable or not willing to make the req-

Julian Allen-Ellis Director of MIFID/MIFIR at AFME

uisite data available to the industry that would enable the banks to comply with the regime,” says Allen-Ellis. “We are seeking an industry solution and establishing further clarity over how to comply with the regime in the absence of a golden source of SI data.”

International worries Another concern among wholesale banks is around the share trading obligation and in particular access to third country non-EEA venues. Investment firms are still waiting on the Commision to hear which third country trading venues will be deemed equivalent for the purpose of the share trading obligation. “The list of equivalent third country venues is still outstanding with just

100 days to go to the go live date of MiFIDII/MiFIR.” The AFME is also focused on the detail around restrictions on the provision and receipt of investment research. The rules dictate that sell-side firms must unbundle execution commissions from payments for research for their clients. Significant concerns remain with respect to the interoperability of the regime with US restrictions on the receipt by broker dealers of hard dollar payments for research. “The policy objective was to improve transparency around the pricing and provision of investment research. However, the precise status of FICC research, the status of macro research, the status of corporate access and concierge services all remain open to debate across the industry.” says Allen-Ellis.

Brexit The UK’s Brexit negotiations with the EU have also had an effect on core concepts within MiFID II, particularly around how market particiants in third country jurisdictions can access EU markets. With the review of MIFID, the Commission has attempted to create a harmonised regime for granting access

to EU markets for firms in third countries. However, the regime is limited in scope to the cross-border provision of investment services and activities provided to per se professional clients and eligible counterparties. ESMA is reportedly by and large not dealing with any third country issues due to political sensitivities in light of UK’s Brexit negotiations and the potential for the UK itself to become a third country in the future. So what happens if wholesale banks do not receive the additional clarity they are asking for before the fast-approaching January implementation date? “Our members are preparing for MiFIDII/MiFIR as best they can,” says Allen-Ellis. “The industry has had to make working assumptions and make interpretative best efforts on their journey towards MiFIDII/MiFIR readiness for 3rd January 2018.” He confirms that AFME and members are continuing their ongoing engagment and close cooperation with NCAs, ESMA and the European Commission. Read more on businessandindustry. co.uk

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New regulation putting added pressure on firms’ technology Time is running out to ensure your technology systems are not only ready but also compliant for MiFID II, says leading capital market’s tech provider, Itiviti Group AB. By Steve Hemsley

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Financial companies that fail to upgrade their technology architecture to meet the demands of MiFID II will be unable to trade effectively. The rush is on to adapt firms’ software to meet the forthcoming regulation revisions, including changes to how records of electronic transactions are kept and new rules to ensure data is collected, stored and transmitted safely and securely. Ensuring technical compliance by the January deadline should have been a top priority for financial firms but this has not always been the case. “If your trading systems are not upgraded you won’t be able to trade because you will not be allowed to connect to markets, and you will struggle tocollect the data needed for reports,” says Jonas Lindqvist, Principal Trading and Trade Execution at Itiviti Group AB, a technology provider for the capital markets industry. “People wanted to buy a MiFID-compliant software blanket to place over their existing systems compliant but it is not as straightforward as that. You have to invest in the right up-dates.” Many companies have invested in upgrades but others have been reluctant to update their technology

until now. Itiviti Group AB has been busy leveraging its years of technology and regulatory expertise to explain to the industry the consequences of not adapting existing systems to meet the requirements of MiFID II. “Firms are realising they must fine-tune their approaches to technology to meet their own needs once the new regulations take effect,” says Lindqvist. “As a business we understand the requirements of MiFID II compliance and the technology needs of the market. We act as a partner, advising on what are the relevant aspects of MiFID II to help them become compliant and trade as close to normal as possible” Itiviti AB’s VP engineering of agency trading apps, Johannes Frey-Skött, cites the conundrum of ensuring that the different platforms being used across the industry can still talk to each other from January. Some platforms have been supplied by independent software vendors while others have been built in-house. “This time the regulations will affect every asset class handled by an investment firm and that is a real technological challenge,” he says.

New world The changing regulatory environment will place particular emphasis on the platforms firms use to connect to liquidity sources. This changing environment places particular emphasis on the platforms used by firms to connect to liquidity

Jonas Lindqvist Principal Trading and Trade Execution, Itiviti Group AB

Johannes Frey-Skött VP Apps Engineering, Itiviti Group AB

sources. MiFID II may mark the end of the traditional demarcation between OMS and EMS platforms. The OMS has traditionally been used to keep track of orders, order status and progress in working an order. When the order had basically one destination (i.e., a primary market for equities), the need to keep track of the various child orders was limited. The complexity of the emerging post-MiFID II execution venue landscape, however, calls less for a discrete system for sending orders to a destination and more for a platform that addresses work flow seamlessly without the need for multiple external applications. MiFID I introduced market fragmentation in the equities space, but it was still a relatively easy task to route the order to an internal or external SOR. That meant some de-

gree of OMS/EMS integration, mostly via FIX, but the systems were still essentially separate. With MiFID II and its focus on transparency, however, the requirement becomes more complex.

Keeping records Ultimately firms need the technology they invest in to help them become more transparent in terms of pre- and post-trade reporting while still effectively managing orders and execution. This means any platform must meet the new record keeping requirements, enable algorithmic trading and monitoring; and support instrument and client definition management, time synchronisation and high frequency trading classification. It must also handle systematic internalisation needs, risk compliance and checks.

“The right technology will be future-proofed and optimised for the new market structures,” says Lindqvist. “Futureproofing has been a design philosophy for us from the beginning. In this industry technology has to be flexible and adaptable to change, which have to be part of the core design from the start.” He says that with MiFID II this means any platform must accommodate the new volume caps and high-frequency trading (HFT) classification, as well as broader concepts like the new venue types across all asset classes. “These will affect how firms approach macro issues like staffing and more micro issues like the operational requirements of the OMS and EMS platforms.”

Efficiency Lindqvist adds that with the pressure on firms’ margins, choosing the right technology to ensure smooth compliance with MiFID II could be an important market differentiator. “With more transparency, customers will get a clearer view of what they are paying for and they will be able to compare the cost of different services more easily,” he says. “The right technology can improve efficiency, save money and add business value as well as ensure regulatory compliance.” Read more on itiviti.com

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Mark Croxon Head of Regulatory and Market Structure Strategy for EMEA at Bloomberg L.P

MiFID II is a journey, not an event

s we get into the final stretch before the 3 January 2018 go-live date, the readiness of the market is still a question mark. For firms struggling with the magnitude of MiFID II, there is a way to approach practical implementation by dividing the requirements into three categories: first, what is known, second, where further guidance will be provided by the regulators, and third, where technology and the evolution of best practices will influence regulatory compliance standards. Broadly speaking, the pre, post-trade and transaction reporting, as well as the trading mandate requirements, are fairly detailed. Regulators have also provided a bit more clarity for these requirements than for others. It is expected that firms should be compliant in this area on day one. Equivalence and even best execution could be seen as belonging to the second category, as regulators are expected to provide more guidance. For these requirements, firms should make assumptions in line with the spirit of the regulation. Research belongs to the third category. Extraterritorial uncertainties remain, and the entire market is reshaping. More and more large buy side firms are opting to absorb costs, while smaller firms opt to use research payment accounts and charge their clients. In practice, for most of the two latter categories of requirements, firms will only need to take actions later in 2018. MiFID II is in fact more akin to a journey than an event. For example, the first best-execution reporting period ends in April 2018, the double-volume cap on equity trades will be re-evaluated in June, transparency reporting will be impacted by the entry into force of the systematic internaliser declaration regime in September, and it’s not before the end of 2018 that firms will need to prepare a research budget. Firms will also need to review their processes to ensure regulatory reporting, data collection for best-execution reporting, clock synchronization and time stamping, as well as record-keeping in immutable storage, are being done correctly. Additional regulatory guidance is also expected throughout the year. The deadlines for these actions are real. However, as long as firms are capturing the required data, the spacing of the compliance dates for the different categories gives them more time to get all their solutions and systems in place. Read more on businessandindustry.co.uk

Cleared derivatives industry working hard to comply with MiFID II FIA has been busy listening to its members and working with them to create industry standard operational and documentation approaches to facilitate timely compliance. By Steve Hemsley

he industry is using its best efforts to ensure “day one” compliance. FIA and its members are working together to create a set of industry standards based on an agreed interpretation of the EU’s regulations. “We have started the process of advising national competent authorities in each EU member state about how firms through no fault of their own might not be 100% compliant on January 3, either due to the delay in publication of final standards and/ or outstanding areas of uncertainty – for example, with respect to indirect clearing, direct electronic access and various commodities requirements ” says the FIA’s Head of Europe Simon Puleston Jones. He notes that the European Commission is only expected to publish the final regulatory technical standards for indirect clearing towards the end of September, for example. Meanwhile many third-country firms have been surprised by how MiFID II will impact on their activities even though they are not based within the EU. They still have many questions about how the new rules will ultimately affect them and FIA is holding a series of webinars and calls to help promote a better awareness and understanding of third-country impacts in the US and Asia.

Reporting changes With just a few weeks to go until MiFID II becomes EU law, the FIA is still talking to regulators about the changes to transaction and commodity position reporting. “We have surveyed our membership and most firms feel they will be compliant with the transaction reporting requirements from 3 January, but they are still encountering potential implementation issues with respect to data quality, data security regarding the storing and transmission of sensitive data and exchange readiness.” When it comes to commodity position

Simon Puleston Jones Head Of Europe, FIA

reporting there are a number of unclear issues for clearing members, says Puleston Jones. “FIA members are concerned that the literal interpretation of the MiFID II requirements would imply reporting is required from the executing broker, regardless of whether that entity is also the clearing broker. As the executing broker has no visibility on future lifecycle events that impact the trade, only the clearing broker is in a position to perform such reporting obligations”. He further notes challenges relating to identification and reporting of the end client, the excess regulatory burden of having to report “zero” positions. In the absence of a reporting field template published by ESMA, FIA has worked with its members to create an industry standard reporting schema to facilitate compliance with the commodity position limit reporting regime.

Direct electronic access The FIA has also asked for more information on how direct electronic access (DEA) to trading venues will be governed. Firms want to know how the new re-

quirements will apply to exchange-traded derivatives. They need to understand, for instance, what is considered DEA, how the exemption process will work in different EU Member States and to what extent are third country firms subject to the requirements? There is also a need to remove the commodity position limit reporting obligation to C.10 non-commodity contracts such as inflation swaps, to align with changes made to the commodition position limit regime.

Criminal offence Concerns have also been raised by FIA regarding the operation of the ”ancillary activities” exemption. Not all commodity firms met the FCA’s application deadline for MiFID II authorisation as an investment firm. If those firms are not authorised in the UK by January 3 2018, they will commit a criminal offence if they continue to trade from that date and any trades entered into by them will be voidable – a problem not only for them, but also their counterparties. Some countries, including Germany and Italy, have reacted to this potential problem by introducing a transition period and the FIA is in discussions with HM Treasury and UK regulators to promote the adoption of a similar solution.

Getting ready “In many areas, the industry is more or less ready for MiFID II. The remaining issues that we have highlighted have been out for discussion for a long time and need to be addressed quickly if firms are to be compliant from the date of go-live” says Puleston Jones. “As 3 January approaches, trade bodies such as FIA perform a key role in helping their members reach a consensus on how to implement the requirements – notwithstanding the outstanding areas of uncertainty, doing nothing is not an option as the FCA expects firms to use their best efforts to ensure compliance.”

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Technology Redeﬁning Regulatory Compliance Execution Technology is redefining the way firms comply with MiFID II and other financial regulation, focusing on data quality, centralisation and strategically advancing organisations to drive the direction of their business. By Steve Hemsley