What is Mifid II?
Cass academics explain new EU financial regulatory reforms
New EU financial regulatory reforms, known as Mifid II, will come into force on Wednesday 3rd January. The reforms will transform Europe’s financial industry and their impact will be felt on banks, fund managers, exchanges, traders, brokers, pension funds and retail investors.
Dr Marco Boldini is an Honorary Visiting Fellow at Cass and Member in the Centre for Banking Research.
What impact will the regulation have outside Europe?
Dr Boldini said there will be at least two specific areas of impact outside Europe.
“We have seen a huge debate recently on the so-called extraterritoriality issue which affects countries outside the EU. There will be two main areas of impact on countries outside Europe - ‘third country regime’ and ‘research’.
Mifid II will introduce new “third country” requirements for non-EU managers who wish to provide portfolio management investment services to EU investors. This is a completely new provision.
Broadly speaking it has to be distinguished between non-EU portfolio managers wanting to access retail investors and non – EU portfolio managers wanting to access professional clients.
Retail clients portfolio managers will have to set up an EU branch that will be regulated as other MiFID investment firms, whilst for professional clients, non-EU discretionary portfolio managers will have to register with ESMA (no need to set up a branch), assuming that equivalence and reciprocity measures have been assessed and determined by the European Commission.
With regards to research, as everyone now knows, Mifid II will impose stricter rules on asset managers paying for analyst research. In addition EU rules contrast with US laws that require any US business that sells research for ‘hard’ dollars to be a registered investment adviser, a step that makes compliance obligations much stronger. That prompted the Securities and Exchange Commission, the US markets regulator, to issue a temporary ‘No-Action Relief letter’ for US banks and brokers to charge their EU asset manager clients directly for research. There will be a lot of debate around this topic in the next months and a high degree of uncertainty will certainly prevail.”
What will the benefits of the new rules will be?
“The Financial Conduct Authority recently published a study on the asset management industry which found that many investors didn't know how much they were paying, or even what they were paying for.
Mifid II requires investment firms to make available to investors information on all costs and charges related to financial instruments and services. This includes management, advisory, custodian, fund entry and exit fees. The interesting point is that these new requirements can increase efficiency and create a more competitive landscape within the financial industry. The data used for compliance reasons can be used to improve client relationships. It will make possible for firms to access information in real time, better profile their clients and review their business goals. Data that has been historically seen as a burden could become now a great asset for investment firms and clients too.”
Do you think there are any areas of concern?
Dr Boldini said there are four main areas of concern which relate to some of the unintentional consequences of MIFID – research, transactions details, target market and transparency requirements.
“As we have discussed above, the idea to charge for research separately from trading services is among the most controversial aspects of the new regime. There will be some immediate consequences such as the fact that spending on research will be reduced as the buy side becomes more cautious in what they spend and on the quality of the material they receive.
In addition to this, US banks could struggle to sell their US research to European clients in light of the regulatory differences between the US and EU in terms of what can be sent to EU clients.”
“With regards to transactions details, investment firms will have to carefully document transactions because there is concern that Mifid II could therefore limit selling activities. Clearly, less sophisticated EU financial cities will suffer even more.”
“Mifid II requires firms involved in selling financial products to make sure that investors buy only products which are appropriate to them. In other words, firms need to identify the so called ‘target market’.
UK implementing rules provide that portfolio managers also have to comply with this requirement as they’re classified as product distributors. This basically means that distributors have to consider whether an individual investment decision is appropriate for that specific client (target market). Again a lot of regulatory pressure eon intermediaries but also a measure difficult to monitor and implement.”
“The Mifid II regime substantially expands the pre-trade and post-trade transparency regime for financial instruments traded in the European Union, covering an expanded range of financial instruments and also covering an expanded range of trading venues.
These new enhanced obligations will be a great way to guarantee increased transparency but – at the same time – it means additional costs for firms and a vast amount of data to be digested and analysed by trading venues, investors and regulators.”
Dr Francesc Rodriguez Tous is a Lecturer in Banking at Cass and Member in the Centre for Banking Research.
What will the rules actually do?
“Mifid II affects a large set of financial firms. This is different from Basel rules, for instance, which typically only affect banks. The aim of the rules is to increase transparency and investor protection in financial markets, making sure that investors understand what they buy and sell, are protected against miss-selling practices, and price formation is clear. The most discussed example in the recent months is research: now investment banks and brokers cannot include research as a bundle with the trading fees; they need to be charged separately. This goes towards the objective of providing transparency to make sure everyone understands what they pay for. This obviously increases some costs of providing financial services but hopefully the result will be better financial markets.”
What will happen on 3rd January 2018?
“Nothing major. We have seen in the recent months that in some of the more affected markets, such as research, there has been a lot of thinking and asset managers have taken some steps to adapt to the new legislation. Moreover, there have been some last minute changes, for instance the requirement for all market participants to have a legal identifier (LEI) in order to trade has been postponed six months. That said, it is a big piece of legislation so there could potentially be some initial issues.”
Do you think the Banks and the City are well prepared?
“The Directive and regulations were approved in 2014, and hence financial firms have had some time to prepare. That said, some of these financial firms in the City have received new prudential requirements from Basel III, face new accounting standards with IFRS 9, and now have to comply with Mifid II. Hence, even if they appear well-prepared, it will be interesting to understand how all these regulations interact with each other, and whether certain market segments become more or less profitable as a result.”
What will happen to Mifid when the UK leaves the EU?
“It all depends on the agreement. In general, if the UK were a ‘normal’ third party, then only financial firms that wanted to operate in the EU should comply with Mifid II. However, if the UK wants to retain some customs union in financial services, then it will have to have equivalent legislation to Mifid II. That said, my understanding is that the UK and the EU approach on this regulation is similar, so it would not be a major problem for the UK. This is true in financial regulation in general.”
About the academics
Dr Marco Boldini
Marco is an Honorary Visiting Fellow at Cass and Member in the Centre for Banking Research. He is a fully qualified lawyer in Italy and the UK, where he is both a solicitor and barrister.
Marco currently serves as Head of Regulations (Asset Management) Legal at PriceWaterhouseCoopers (PWC) in London.
Marco is responsible for overseeing all regulatory functions within the Asset Management industry (Legal) as well as analysing the impact of emerging regulations, helping clients to better assess their legal obligations.
Prior to joining PwC, Marco served as European Regulatory Counsel (Director) at ETF Securities, an asset management firm focused on exchange-traded funds (ETFs), exchange-traded commodities (Commodity ETCs) and exchange-traded currencies (Currency ETCs) with offices in Jersey, London, New York, Sydney and Ireland. Marco was responsible for overseeing all regulatory functions across Europe and analysing the impact of emerging regulations.
Prior to joining ETF Securities, Marco worked at a number of international banks, including as legal counsel at State Street Bank, where he mainly dealt with corporate governance and regulatory matters. Marco was also a senior associate in the regulatory department of Gianni, Origoni, Grippo, Cappelli & Partners in Milan, one of the Italian top law firms.
Marco has been nominated in 2017 by Legal 500 (GC – Powerlist 2017) as one of the Rising Stars in UK (Financial Services).
Dr Francesc Rodriguez Tous
Francesc is a Lecturer in Banking and BSc Banking and International Finance Course Director at Cass. He received his PhD in Economics from the Universitat Pompeu Fabra, in Barcelona. He has previously worked at the Bank of England, Deutsche Bundesbank, and Banco de España.
Francesc's research is about banking, with a particular focus on banking regulation and systemic risk.