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The Markets in Financial Instruments Directive [ MiFID ]. Thursday 1st November 2007 ALAN BURR, FSI. The waiting is over …. Efficient markets Competition and choice Investor protection and improved relationships Cross-border business Harmonised rulebooks

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the markets in financial instruments directive mifid

The Markets in Financial Instruments Directive[ MiFID ]

Thursday 1st November 2007


the waiting is over
The waiting is over ….
  • Efficient markets
  • Competition and choice
  • Investor protection and improved relationships
  • Cross-border business
  • Harmonised rulebooks
  • Best execution and increased transparency
what is the mifid
What is the MiFID?

Markets in Financial Instruments Directive

  • Is part of the EU’s Financial Services Action Plan (FSAP)
  • Essentially a political debate and process
  • Completely replaces the Investment Services Directive (ISD) of 1993 and extends its coverage to relate to firms’ conduct and internal organisation
  • To apply from 1st November 2007 - TODAY!
  • Applies to all EU / EEA member states
    • (all they all ready?)
  • A major challenge to regulators, practitioner firms, exchanges and trading platforms – plus their suppliers
  • May cost UK institutions £1 billion up-front (FSA)
    • plus on-going costs and income benefits too
eu timetable key dates
EU timetable – key dates

31 January 2007: Transposition date

    • by which national governments and regulators should have made necessary changes to laws and rules

1 November 2007: Implementation date

    • requirements of Directive (Level 1) and “technical implementing measures” (Level 2) come into force
    • ISD is repealed
  • Many Member States are not ready
the wider context and objectives for mifid
The wider context and objectives for MiFID
  • Key developments over ISD:
    • MiFID extends the existing ISD, by establishing EU wide legislative harmonisation for:
      • a wider range of financial instruments (for example including both financial and commodity derivatives)
      • a wider range of investment services including the provision of advice
      • alternative trading mechanisms and venues (e.g. Multilateral Trading Facilities - MTFs)
    • in addition the directive is more prescriptive than its predecessors, giving less leeway to individual states when translating the directive into national law and market practice
fundamental impacts
Fundamental impacts
  • 30 EEA countries
  • Rules made in Brussels – not London!
  • Passporting
  • End of the “concentration rule”
  • RMs, MTFs and SIs
  • Derivatives
  • Best execution
  • Common client classification framework
  • Pre-trade and post-trade transparency
  • Conduct of business rules (FSA’s COBS)
  • Organisational requirements
  • Outsourcing
  • Inducements
  • Agreements, policies and record keeping
  • Business continuity planning
  • Transaction reporting
what does mifid cover
Conflicts of interest

Compliance and risk management

Best execution

Transaction reporting

Internal systems

Client assets

Pre-trade and post-trade transparency


Client classification


Communication with clients

Suitability and appropriateness


Client agreements

Investment research

Financial promotion

Information disclosure

Order handling

Execution only services

Record keeping

Cross-border trading

RMs, MTFs and SIs

What does MiFID cover?
mifid expansion of scope
MiFID – expansion of scope
  • Commodity derivatives
  • Credit derivatives
  • Financial contracts for differences
  • Exotic derivatives
  • Investment advice
  • Operating MTFs
key mifid themes 1
Key MiFID themes (1)
  • Increased scope coverage:
    • all firms providing investment advice
    • MTFs
    • commodity derivatives
  • Best execution:
    • obligation to ensure the best possible result for their clients
    • firms are required to draw up, publish, review and maintain execution policies
    • level playing field for the retail investor – protection and execution integrity
key mifid themes 2
Key MiFID themes (2)
  • Pre-trade transparency:
    • MiFID establishes minimum standards
  • Post-trade transparency:
    • increase in trade reporting obligations, initially in equities
  • Passporting rights:
    • improved and simplified operation of a single passport for investment activity
  • Conflicts of interest:
    • stipulation to ensure firms have effective systems and controls
    • demonstration of management of conflicts of interest e.g. Chinese Walls and disclosures
key mifid themes 3
Key MiFID themes (3)
  • Conduct of Business (COBS):
    • extensive changes
    • full suitability test on clients when providing investment advice or portfolio management
    • significant changes in client documentation
  • Investor classification:
    • common EU framework for classifying counterparties
      • Retail Clients
      • Professional Clients
      • Eligible Counterparties
client classification

Private Customer

Intermediate Customer

Market Counterparty

Retail Client

Professional Client

Eligible Counterparty (ECP)

Client classification

Before and after MiFID ….

key mifid themes 4
Key MiFID themes (4)
  • Outsourcing:
    • outsourced operational functions must not impair a firm’s internal control or weaken the monitoring of a firm’s compliance obligations
    • Includes intra group contracts
    • comprehensive exit strategy required
    • notification to regulatory authorities
    • must avoid additional operational risk
  • Business continuity:
    • written and tested plans
who will mifid affect
Who will MiFID affect?

In general MiFID covers most if not all firms previously subject to the ISD, plus some that currently are not.

This includes:

  • Retail banks
  • Investment banks
  • Portfolio managers
  • Stockbrokers and broker dealers
  • Corporate finance firms
  • Many futures and options firms
  • Some commodity firms
  • Wholesale market brokers

Market impact (1)

  • Main outcomes likely to be:
    • greater competition between trading platforms
    • impact of new transparency regime on liquidity and spreads
    • strengthening of investor confidence through, e.g. access to more comprehensive trading information
    • greater competition for trading data

Market impact (2)

  • Trading platforms:
    • limited implications for the competition between RMs, as the UK has a relatively open and competitive environment for exchanges
    • RMs will face competitive threats from MTFs and SIs
    • MTFs may be able to compete more effectively with other trading venues, as EU-wide access facilitated
    • allowing investment firms to compete more directly as execution venues will impact those countries with concentration rules
    • less so for the UK which already has a relatively high degree of internalisation

Market impact (3)

  • Pre-trade transparency:
    • little change for trading on order-book, quote-driven and hybrid systems
    • on-exchange trading outside these systems will need to become pre-trade transparent (about 15% by volume, 5% by value)
  • Post-trade transparency:
    • new block trading regime and requirement to publish non-UK share transactions
  • Impact on spreads and liquidity may be limited

Market impact (4)

  • Main investor confidence provisions are in COBS area
  • Costs of post-trade reporting will fall
  • Effective consolidation arrangements should mean cost of data falls in medium term
  • Some new initiatives ….
project boat
Project BOAT
  • 9 investment banks
  • Trade reporting and market data aggregation
  • Reduce the cost of market data
  • Leveraging MiFID
project boat1
Project BOAT
  • June 2007 – 5 more banks announced as joining Project BOAT
    • BNP Paribas
    • RBS
    • Barclays Capital
    • Dresdner Kleinwort
    • JP Morgan
project turquoise
Project Turquoise
  • 7-9 investment banks
  • Creating a MTF
  • Appointed a DTCC subsidiary, EuroCCP
  • Citi to settle trades
  • Challenging dominance of exchanges
  • Leveraging MiFID
  • Live Q2 of 2008?
  • Cinnober to provide the trading system
  • Based on EASDAQ model, Belgium based
  • Single venue trading (not 29 exchanges)
  • Speed – ultra fast
  • Cost - reducing costs for connectivity, trading and clearing and settlement
  • Likelihood - guaranteed execution
  • Price - provable pan-European best price
  • Leveraging MiFID
instinet chi x ltd
Instinet Chi-X Ltd.
  • Operated by Instinet Europe Limited
  • Low execution and settlement costs
  • Passporting into all venues
  • 7,500 pan-European equities
  • Speed, cost, access ….
  • Leveraging MiFID
  • Already successfully operating, trading Dutch and German stocks plus French and British ones too
expect more
Expect more ….
    • New ventures
    • MTFs
    • Tariffs and fees
    • Smart order routing and algorithmic trading
    • Dark liquidity pools
    • Buy-side models
    • Order flow
    • Best execution policies
summary market structure
Summary – Market Structure
  • Introduction of MTFs and Systematic Internalisers – public quotes
  • Transparency for pre-trade limit orders
  • Rules on order handling
  • New best execution rules
  • Collection and dissemination of market information
  • How to get a complete market overview?
  • EU electronic networks to be set up
  • Definition of liquidity for various instruments
  • Re-definition of financial instruments, incl. derivatives
  • Definition of Retail Market Size
  • Published list of Pan-European shares (CESR)
mifid the overall impact on firms
MiFID – the overall impact on firms
  • Not just compliance!
  • Business models
  • Operations
  • Technology
areas of firms affected

Senior management



Client services

Human resources


Trade execution

Risk management

Internal audit


Branch structures

Buy and sell-side

Areas of firms affected

Most areas!

organisational requirements 1
Organisational requirements (1)
  • General organisational requirements :

- governance, internal controls and organisation

- accounting procedure

- audit committee and risk management

- business continuity

- persons controlling the firm

- senior management responsibilities

  • Employees, agents and other relevant persons (including senior management requirements):

- awareness of procedures

- segregation of duties

- employees’ competence, skills, knowledge and expertise (new T&C regime at same time from FSA)

- ongoing monitoring

organisational requirements 2
Organisational requirements (2)
  • Compliance (including internal audit):

- establish effective systems and procedures to meet regulatory requirements

  • Risk controls (including certain CRD risk-specific material):

- establish effective risk control policies and procedures

  • Outsourcing:

- additional requirements

  • Recordkeeping:

- additional requirements

  • Conflictsofinterest:

- establish and maintain an effective written policy to manage conflicts of interest between the firm and its clients and between clients of the firm

suitability and appropriateness
Suitability and Appropriateness
  • Advisers / Managers – “Suitability”
    • relates to the provision of investment advice
    • increased information gathering requirements
    • owed to all clients wherever the firm provides advice or portfolio management services
    • firms must gather information about knowledge, experience, objectives and financial situation
  • Other services – “Appropriateness”
    • execution only
    • information on client's “knowledge and experience”
    • to determine whether services / products “appropriate”
keeping records of suitability
Keeping records of Suitability
  • Best to have a policy of keeping records when giving investment advice
  • Record the advice and why it was suitable
  • Retain records for 5 years after the transaction has matured
  • Revise standard terms of business and risk warnings
  • Produce conflicts management policy
  • Produce best execution policy with list of execution venues
  • Review adequacy of documentation of compliance and systems and controls
  • Publication of unexecuted client limit orders
transaction reporting
Transaction reporting
  • Transaction reports play key role in detecting market abuse and protecting market integrity
  • Under MiFID:
    • all transactions in instruments admitted to trading on an RM to be reported. UK regime thus will extend to include commodity, interest rate and foreign exchange derivative contracts
    • reports to be made electronically and contain specified fields
    • firms may report to their local regulator rather than the regulator of the market
    • report no later than next business day
    • maintain records in a "re-constitutable format" for 5 years
  • Trade Data Monitors
  • Approved Reporting Mechanisms
summary record keeping
Summary – Record keeping
  • Firms must keep records in "sufficient detail" to be able to reconstitute their transactions
  • New rules on contents of records:
    • 5 year retention period
  • Content of transaction reports / 23 fields required
  • Can hold in durable medium
  • Records must be kept to prove:
    • customers were adequately communicated to / from during classification
    • the ongoing suitability and appropriateness to client
    • the background business dynamics in order to be able to prove that best execution was achieved at the time of the transaction
  • Record keeping affects all of your business
mifid connect
MiFID Connect
  • This a grouping of various industry bodies who have come together to look at the implementation issues associated with MiFID in the UK
  • Practical implementation policy and advice to member firms
  • Wholesale and retail sectors
mifid connect its objectives
MiFID Connect – its objectives
  • To develop a set of guidelines to avoid risk and legal uncertainty
  • To provide specimen customer-facing documentation
    • as a benchmark
    • worked first on “best execution”, “appropriateness”, “suitability”, and “conflicts of interest”
    • customer classification, transaction reporting, internalisation, and outsourcing followed
  • To produce a two-part “survival guide” and checklist for members
    • Part 1 in mid-2006, being a strategy and plan
    • Part 2 in mid-2007 as a checklist matrix (end of May)
  • To hold courses, seminars and workshops
  • To issue releases and updates
  • To set up a practitioner advisory committee