EU MiFID II & MiFIR

Which activities do MiFID II and MiFIR cover?

1. Core investment services and activities - These include: portfolio management, placing, receipt, execution and transmission of orders, underwriting, operation of an MTF/OTF and investment advice
2. Ancillary services - These include: Safekeeping and administration, granting investors credit, FX services, investment research and M&A advice

What are the objectives of MiFID II and MiFIR?

1. MiFID II
   • Ensuring organised trading takes place on regulated platforms
   • Introducing rules on algorithmic/high-frequency trading
   • Improving transparency and oversight of markets
   • Enhancing investor protection and improving COB rules
   • Strengthen the protection of investors by introducing requirements on organisation and conduct
2. MiFIR - Requirements on:
   • Disclosure of data on trading activity to the public
   • Disclosure of transaction data to regulators and supervisors
   • Mandatory trading of derivatives on organised venues
   • Removal of barriers between trading venues and providers of clearing services
   • Specific supervisory actions regarding financial instruments and positions in derivatives

How are MiFID II and MiFIR relevant to funds?

• They both cover a broad scope of services and activities on both sell and buy side
• MiFID II and MiFIR do not directly regulate funds or fund managers, but several aspects are relevant to asset managers and indirectly apply to funds
• Product design - target market and product governance rules
• Front office activities - trading and portfolio management
• Service providers, including custodians/depos
• Distribution - retail and institutional, inc investment advice

What are the key changes in MiFID II and MiFIR for funds and asset managers?

1. Inducements - Rules on payment for investment research and restrictions on commissions for distributors
2. Market Transparency - Enhanced transaction and trades reporting, including a broader scope of pre-trade reporting. Also, revised publication waivers
3. Trading - New definitions of trading venues, revised trading waivers, revised algorithmic trading rules, trading/clearing obligations, enhanced best execution rules and record keeping
4. Product Governance - Identification of the target market, monitoring of distribution and client reporting

Which MiFID II and MiFIR rules are most relevant for funds and asset managers?

1. Portfolio management and trading - These include: transaction reporting, waivers, trading obligations, clearing obligations, trade reporting, algorithmic trading and payments for investment research
2. Distribution - These include: Inducements, best execution, product governance, suitability, target market, appropriateness
3. Organisational and Conduct of Business - These include: controls, product approval process, segregation, client assets, prudential requirements, PA dealing, record-keeping, taping, risk management, client reporting, order handling and conflicts of interest

What key rules apply to trading and portfolio management?

1. Market Transparency - Pre and post-trade reporting and transaction reporting
2. Conduct of Business - Including rules governing compliance and record-keeping processes and the management of conflicts of interest
3. Best Execution - Existing obligation if MiFID I but enhance duty to take sufficient steps to obtain the best result in MiFID II
4. Algorithmic Trading - New obligations for risk and control systems. For example, flash crash, use of algos

What are the rules on payment for investment research?

• Changes to the way in which fund and asset managers pay for investment research; previous rules permitted “bundling” of research and execution (single payment to a broker for both execution of a trade and underlying investment research). However, MiFID II inducements rules require these to be unbundled - a single payment can no longer be made
• Research is required to be paid directly from the fund/asset managers P&L - hence, the fund/asset manager would pay rather than the investor or fund

What are the rules for market transparency?

1. Trade reporting - These include: near-real time reporting of various data and the obligation to report post and pre-trades
2. Transaction reporting - These include: T+1 reporting following execution; reports submitted to local regulators via ARMs and data is used for market abuse monitoring/regulatory oversight

How does MiFID regulate trading in the market?

• Introduced new trading venues - Organised Trading Facility (OTF), Regulated Market (RM) and Multilateral Trading Facility (MTF)
• New concept of a Systematic Internaliser (SI) created to capture firms that execute client orders by dealing on their own account
• Non-EU trading venues process for recognition by ESMA

Which rules apply to the design of funds?

• MiFID II introduced product governance rules which apply to product manufacturers (including fund managers) and to distributors (e.g. financial advisers)
• The rules require the determination of a target market for a product when it is designed, including considering various factors as to potential investors
• The method of distribution should be considered, and the target market communicated to distributors
• Through information exchange between fund managers and distributors, monitoring of whether the target market is being met should be undertaken on an ongoing basis

What changes are in store for MiFID II and MiFIR?

1. Investment Firm Review (IFR)
   • Prudential requirements for investment firms
   • Third country business
   • Systemic investment firms
   • Governance
   • Remuneration
2. Sustainable Finance Package
   • Distributor consideration of ESG investor preferences
   • Integration of sustainability risks by MiFID investment firms
3. ESA Review
   • MiFIR product intervention powers
   • ESMA supervision of data reporting service providers