ESMA begins consultation on MiFID II technical standards

ESMA will now focus on the technical standards for MiFID II

The European Securities and Markets Authority has launched a consultation on the implementation of MiFID II, the long-awaited legislation from the European Commission which was recently approved by the European Parliament.

The consultation seeks to translate the principles agreed in the draft text into more technical standards which will be directly implemented across the 28 member countries of the EU.

MiFID II is the European Commission’s attempt to reform the capital markets after the financial crisis and to update the 2007 Markets in Financial Instruments Directive, to take account of new features of the market such as fragmentation, increasing use of algorithms and predominance of high frequency trading, as well as the rise of dark pools. It also greatly extends the scope of the legislation from equities to include all other asset classes.

Although a major landmark was reached when the MiFID II draft text was passed by the European Parliament on 15 April, MiFID II contains more than 100 requirements for ESMA to draft Regulatory Technical Standards and Implementing Technical Standards, as well as to provide technical advice to the European Commission to allow it to adopt delegated acts. In other words, while the document was passed in principle, much of the technical work remains to be done.

“Much of MiFID’s impact is highly dependent on the Level 2 measures that are being consulted upon,” said John Liver, head of regulatory reform for financial services EMEIA at Ernst & Young. “Today’s consultation paper clearly highlights the numerous challenges of making MiFID II operational.”

As part of the consultation, ESMA has published two documents. The first is a consultation paper on MiFID and MiFIR technical advice, which ESMA needs to deliver to the European Commission by December; and a discussion paper on MiFID/MiFIR draft RTS/ITS, which will provide the basis for a further consultation paper on the draft RTS/ITS which is expected to be issued in late 2014 or early 2015.

The main proposals on financial markets, transparency and regulation cover how to achieve enhanced transparency and trading obligations, including increasing pre- and post-trade transparency for many categories of instruments such as equities, exchange-traded funds, certificates, bonds and derivatives and the standardisation and central trading of derivatives. They also deal with high frequency trading, direct electronic access and obligations for firms using trading algorithms, as well as data publication and access, including the creation of a consolidated tape of post-trade data, reporting mechanisms and access to CCPs for clearing.

“A key area of focus for ESMA will be the wider context of automated trading using algorithms, including HFT,” said Liver. “And much needs to be clarified by ESMA on how trading caps for dark pool equity transactions will work, not to mention how suitability tests will function on the consumer protection side. It’s really important we get this next level of detail right, and leading investment firms, trading venues, regulators and brokers, dealers are well advised to actively engage in the process as a matter of priority to help shape the implementation details.”

There is also a focus on investor protection, especially retail investors, which covers limitations on inducements, controls for independent advice and product governance, the introduction of powers for ESMA to ban products, and improved information requirements on costs and charges that will be applied to clients.

ESMA will hold three public hearings about secondary markets, investor protection and commodity derivatives issues on 7-8 July.

“The launch of today’s MiFID II/MiFIR consultation process is an important step in the biggest overhaul of financial markets regulation in the EU for a decade,” said Steven Maikoor, ESMA chair. “The reform of MiFID is an integral part of the EU’s strategy to address the effects of the financial crisis and aims to bring greater transparency to markets and to strengthen investor protection. These changes are key to restoring trust in our financial markets.”

Previously, market opinion has been divided on the merits of MiFID II. While some observers have hailed the draft text that was passed through the Parliament as largely “sensible” and an improvement on earlier drafts, others have questioned the rationale behind some of the changes, warned that some market participants may be unprepared for the consequences, and even argued that the regulation may be going too far. The closing date for responses to both ESMA papers is Friday 1 August.