What is MiFID I/II? Also known as the Market in Financial Instruments Directive, MiFID is a regulatory framework that increases transparency in the EU’s financial markets. It also focuses on reporting and disclosure standards in financial and equity trading. The original directive (MiFID I) was introduced in 2007, with the updated response to the 2008 financial crisis (MiFID II) coming into effect in January 2018.
So what is the difference between MiFID I and MiFID II?
MiFID I was created to:
- Generate organizational requirements for investment firms.
- Standardize authorization requirements for regulated markets.
- Construct regulatory reporting standards to avoid market abuse.
- Increase trade transparency for shares.
- Design rules for the inclusion of financial instruments in trading.
After the financial crisis in 2008, the European Commission, the European Parliament, and the Council of the European Union decided to revise MiFID I to increase its efficiency, and level the playing field within financial markets.
MiFID II is designed to:
- Create increased transparency in equities and non-equities trading.
- Move derivative and bond trading to regulated venues through the creation of a new trading platform category, known as Organised Trading Facilities (OTFs).
- Make it easier for Small and Medium-sized Enterprise (SMEs) to access capital through the creation of an SME Growth Market Label.
- Improving investor protection.
- Make access easier to trading and post-trading services.
- Bolster cooperation between pan-European regulatory oversight.
Because these regulations are so vast and complex (comprising over 5,000 pages), breaking them down into easily understandable categories can help. There are four main elements that make up the bulk of this regulatory framework: market structure, investor protection, transparency, and reporting. In more detail, they look like this:
The four elements that make up MiFID
Market Structure
- An improved market structure has been designed to close gaps in former regulation.
- Trading has been shifted to regulated platforms, and thus, share trading must now be communicated so that is can be regulated.
- When investment firms now execute client orders via internal systems, they must now be registered as a Multilateral Trading Facility (MTF).
- In order to equalize MTFs with Regulated Markets (RMs), an Organised Trading Facility (OTF) has been created as a multilateral trading platform.
Investor Protection
- New requirements regarding the protection of client assets, and compliance monitoring of products.
- New and improved conduct rules regarding scope, appropriateness of testing, and client information.
- Strengthened limitations of commissioned advice.
- Marketing and distribution of financial products (including structured deposits) can be prohibited or restricted by the European Securities and Markets Authority (ESMA) and European Banking Authority (EBA).
- The Insurance Mediation Directive (IMD) has been amended to provide new regulations for insurance-based investment products.
- A certain level of liquidity must be maintained at all times.
Transparency
- Transparency in the equities market has been increased.
- New regulations for non-equity products (i.e., bonds and derivatives) has been introduced, including pre- and post-trade regulations. This data must be made available on a commercial basis and also published to the public.
- The price of investment research will be more transparent.
Reporting
- It is now obligatory to report transactions, the degree and type of details necessary are also new and much more extensive than previous requirements. This includes reporting requirements for investors, regulators and risk managers.
- Firms will now have to check their reporting framework regularly using a testing system to ensure that reporting is happening accurately.
In a nutshell, MiFID II increased the requirements from MiFID I on market and research transparency. All trade transactions now have to be reported, and there are increased regulations in place to protect investors better.
Who is Affected by These Regulations?
The parties most impacted by these regulations are investment, wealth, and asset managers operating in the fixed income, derivative, and commodity markets.
Investment managers
- The traditional broker-dealer model will no longer be appropriate or compliant under these regulations.
- Their investment platforms and processes will be directly impacted and will have to change in order to become compliant.
- Increased costs associated with becoming compliant. This will be easier for larger firms to absorb. In particular, investment firms with a heavy focus on research will struggle to adjust to the new rules. Niche firms will be in a strong position, as the impact of MiFID II will be more consolidated.
The fixed income markets
There is an increased demand to automate and modernize operations due to heightened compliance costs.
The derivatives market
The new transparency requirements might potentially help foster a deeper understanding of the full cost of trading activities. This, in turn, will help markets become more efficient, assuming trade decision-making can be done through comprehensive analysis.
Other parties that are impacted
- Treasury operations, including collateral and liquidity concerns.
- Accounting. Transparent pricing and valuation concerns.
Although this summary does not cover every single element of the regulation, it does a good job of providing the key components. It is important to note that although there are higher costs associated with the implementation of these extensive regulations, in the long run, it should lead to more competitive markets that are focused on innovating.
In addition, the increased reporting requirements will lead to more data being available for analysis, which will hopefully be used to mitigate risk better. The vast text that makes up this regulation, has led to various Regulation Technology (Regtech) solutions to emerge to help those impacted respond appropriately.
Regtech solutions to keep in mind
Visible Alpha
Visible Alpha is a Regtech solution that offers a variety of tools to help companies become MiFID II compliant, such as:
- Research resource tracking.
- Budgeting and evaluation tools.
- Tool to help manage contracts, trials and inducements.
- Lens to effectively discover, track, analyze and value broker interactions.
Deutsche Börse MiFID II Solution
They’ve created a Regulatory Reporting Hub to help clients match their needs in terms of:
- MiFIR transaction reporting
- MiFID II OTC trade reporting
- MiFID II SI service
- MiFID II Best execution reporting
- MiFID II Commodity derivatives position reporting
Corvil
Corvil provides monitoring and risk mitigation solutions, in particular the UTC traceability solution for MiFID II compliance, which helps with accurate time stamp reporting.
Red Deer Research Management
ThisAsset management technologyis designed for investment professionals.
It helps manage data, embed efficient compliance and operational solutions in all parts of the office (front, middle and back) systems.
They have tools to help withmarket data, news, research management (including inducement, consumption and valuation), analytics, trading patterns, manager profiling, investment decision-making, trade & communications surveillance, investment operations, and trading enhancement.
Although MiFID I/II as a regulatory framework is somewhat overly complex, it has the advantage of being able to create positive impacts in the form of more competitive and transparent marketplaces. No one wants to experience something like the financial crisis of 2008 again.
MiFID II is an important step in ensuring that another global financial crisis does not happen again. It creates a precedent for industries and how they behave in the future. As Europe continues to shift how it manages its financial sector, it will be interesting to follow how these regulations impact the economy, foster innovation, and create or destroy industries.
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As an expert in financial regulations and market dynamics, my extensive knowledge in the field allows me to provide a comprehensive understanding of the concepts discussed in the article about MiFID I/II (Market in Financial Instruments Directive). I have a deep understanding of the regulatory frameworks, market structures, investor protection, transparency, and reporting aspects involved in MiFID I/II.
The Market in Financial Instruments Directive (MiFID) is a regulatory framework implemented in the European Union to enhance transparency in financial markets. MiFID I was introduced in 2007, focusing on organizational requirements for investment firms, standardizing authorization requirements for regulated markets, constructing regulatory reporting standards, increasing trade transparency for shares, and designing rules for financial instruments in trading. In response to the 2008 financial crisis, MiFID II came into effect in January 2018, aiming to increase efficiency and level the playing field within financial markets.
MiFID II encompasses four main elements: Market Structure, Investor Protection, Transparency, and Reporting. Let's delve into each of these components:
-
Market Structure:
- Trading has shifted to regulated platforms, necessitating communication of share trading for regulation.
- Investment firms executing client orders via internal systems must register as Multilateral Trading Facilities (MTFs).
- Organised Trading Facilities (OTFs) were created as a new trading platform category to equalize MTFs with Regulated Markets (RMs).
-
Investor Protection:
- New requirements for protecting client assets and compliance monitoring of products.
- Enhanced conduct rules for appropriateness testing, client information, and limitations on commissioned advice.
- Marketing and distribution of financial products can be restricted by regulatory bodies.
-
Transparency:
- Increased transparency in equities and non-equities trading.
- New regulations for non-equity products, including bonds and derivatives, with pre- and post-trade regulations.
- Investment research prices become more transparent.
-
Reporting:
- Obligatory reporting of transactions with more extensive details.
- Regular checking of reporting frameworks to ensure accuracy.
- Increased regulations for better investor protection.
The article highlights that MiFID II has significant implications for various market participants, especially investment, wealth, and asset managers. The fixed income, derivative, and commodity markets are directly impacted, leading to increased automation and modernization to comply with heightened costs.
Several Regtech solutions have emerged to assist in MiFID II compliance, including Visible Alpha, Deutsche Börse MiFID II Solution, Corvil, and Red Deer Research Management.
In conclusion, MiFID I/II, though complex, plays a crucial role in creating more competitive and transparent marketplaces, preventing another global financial crisis. It sets a precedent for industry behavior, and as Europe continues to manage its financial sector, the impact of these regulations on the economy and innovation remains to be seen.
