Bits and some bytes

What are the main differences between MiFID 1/2?

Additional instruments brought into scope:

Insurance-based Investment products are also included with respect to conflicts of interest.

Article 24 prohibits the common practice of retrocessions (inducements) for discretionary asset management and ‘independent’ advice.

A series of measures will reinforce investor protection, including the following:

Advice from investment firms must meet two criteria in order to be 'independent': assess a sufficient range of financial instruments and refrain from accepting or retaining inducements from third parties)
Discretionary portfolio management will also refrain from accepting or retaining inducements from third parties.
Advisory and portfolio management clients will receive a detailed suitability assessment in a periodic performance report.
Pre and post trade information to clients will be enhanced, in particular detailed information on fees and commissions paid and received by the investment firm
Definition of non complex instruments will be amended and exclude structured UCITS. This implies that an assessment of appropriateness will be required before selling any structured UCITS. In other words, ‘execution only’ will not be possible anymore for structured UCITS, regardless of the product risk profile

To capture ‘dark pool’ operators and other alike trading systems (e.g. interbroker dealing systems), a new category of trading venue called Organised Trading Facility (OTF) will be introduced for non equity instruments (e.g. bonds, derivatives, structured products).
Derivatives, which are sufficiently liquid and eligible for clear
ing, will need to be traded on eligible platforms: OTFs, MTFs (Multilateral trading facilities) or RMs (Regulated Markets) instead of OTC trading.
Requirements will be imposed on operators of OTFs (e.g. clients orders on an OTF cannot be executed against proprietary capital) and transactions concluded on an OTF will be submitted to pre & post trade transparency provisions similar to RM and MTF, creating a level paying field.
The scope and obligations of systematic internalisers will be amended

Some of these provisions have parallels with some work I did recently for the FCA to implement the PCBS 2013 Senior Manager's regime.

New requirements for corporate governance and (non executive directors, in addition to other texts (e.g. CRD IV or CSSF circular 12/552).
Introduction of the new concept of “management body”: governing body of an investment firm or a data services provider, including the supervisory and the
managerial functions (i.e. all persons who effectively direct the business).
Strengthened criteria for qualified senior management, the role of directors and supervisors who must commit sufficient time to perform their function and take into account diversity in their composition.
Stricter control of remuneration of staff (e.g. bonus criteria) advising
or selling to clients, which cannot prevent staff from complying with obligations to act in the best interest of clients.
Strengthened role of the compliance office

In coordination with ESMA, national regulators (i.e. CSSF in Luxembourg) will have powers to permanently ban financial products, activities or practices.
Administrative sanctions, fines and penalties will be made public, sufficiently high to offset any benefit and to be dissuasive also for larger institutions.
Position limits for products, such as commodity derivatives, will be introduced. This will include powers for regulators to require existing positions to be reduced or to limit the ability of any person from entering into commodity derivatives

When serving retail or professional clients on request in the EU, third country firms will have to establish a branch in each EU country where they operate. Branches will be subject to authorisation and supervision in the member state.
When serving eligible counterparties or per se professional clients in the EU, investment firms will directly register with ESMA. This registration will be first subject to the third country receiving a positive equivalence assessment from the European Commission. No EU branch is required. The EU passport will be available

Transparency requirements will be extended to additional instruments, such as bonds and derivatives.
Trade reports will need to be published through Approved Publication Arrangement (APA) firms, which will also be subject to authorisation and certain organisational requirements.
Transaction reports will need to capture additional information (including identification of individuals or computer algorithms where relevant responsible for the investment decision).Key system changes will be required to capture additional reporting requirements
(including new instruments). Static data may require cleansing in order to ensure additional information is reported correctly.
As such, reporting will be impacted in 4 dimensions: the format (aligned with EMIR, frequency (near real time), the content and audit trail

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