In January this year the Markets in Financial Instruments Directive (MiFID) was rolled out, which aimed to harmonise regulation for investment services across the EU.
These updated rules cover virtually all aspects of trading within the EU. They reach across the financial services industry, from banks to institutional investors, exchanges, brokers, hedge funds and high-frequency traders.
The European Securities and Markets Authority (ESMA) unexpectedly delayed elements of the regulation until March, however: – the parts that relate to trading in ‘dark pools’.
And so for those not familiar already, here is an overview of the implications of the new directive:
- MiFID II is an EU-wide initiative aimed at improving transparency, protecting investors and rebuilding trust following the financial crisis which began in 2008. Seven years in the making, the directive officially came into effect on 3 January 2018. It alters how research is paid for, how trades are documented and executed and how information is shared between brokers, as well as how they find the best prices and pay each other.
- MiFID II requires investment banks to charge separately for research and brokerage services to minimise the possibility of a conflict of interest. This means fund managers now have to pay for the research that they use, be that in written form or provided orally. This is because regulators were concerned that the practice of bundling charges together for research and trade execution meant that business was routed towards those banks that offered the best advice and guidance, rather than those with the best trading prices.
- MiFID II also clamps down on ‘dark pools’. These are private markets that allow dealers to buy or sell large blocks of shares without revealing beforehand the order size or the price paid. Traders like dark pools because if a large order was traded on a public exchange, high-frequency traders and others using algorithms to spot block orders would likely trade against them. The problem is that stock exchanges believe that dark pools deprive them of business, resulting in higher prices and a loss of fees. MiFID II addresses this issue by requiring no more than 8% of the volume of any stock is traded this way.
- MiFID II also requires the investment community to enhance monitoring and reporting to improve risk spotting and the regulator’s ability to reconstruct events if and when necessary. Brokers, for example, have to record all conversations relating to a deal and store them for five years, institutions must report key trade information like price and volumes almost immediately, all trades must be time-stamped and bond traders have to tell the market of all deals they’ve transacted within 15 minutes of them taking place.
Its clear MiFID II is set to have a sizeable impact on financial services, even if implementation is initially slow.
Although time-consuming and expensive for firms to implement, it’s likely to be welcomed by many in the UK.
The country strives to provide a trusted, stable and predictable regulatory environment, within which business can operate and thrive. Any regulations that helps achieve these goals can only be a positive thing.
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