MiFID II “Quick Fix”- too late, too little
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26 February 2021, the long-awaited MiFID II “Quick” Fix Directive was published in the OJ. The Quick Fix is in response to the CV-19 epidemic and associated disruptions, it is not intended to replace the ongoing full MiFID II review. First proposed as part of the 24 July 2020 Capital Markets Recovery Package, the Quick Fix is relatively speedy by EU standards, the note below briefly assesses whether it is likely to fix anything.
As a fundamental step to increasing participation in capital markets by retail investors, one of the main aims of MiFID II was to increase transparency to and protection of individual market participants. The landmark legislation, at least by page volume, has been widely criticised for subjecting dealers and brokers to bureaucratic overreach, while producing reports for investors which are of limited utility and are rarely consulted. The Quick Fix makes the following amendments to MiFID II and its Delegated Directive (EU) 2017/593 (Research for SMEs):
- Temporary suspension of Best Execution Reports. The Commission recognises that the Art. 27(3) MiFID II requirement to provide detailed Best Execution reports is failing to meaningfully differentiate between execution venues. The reports have been criticised as structurally inaccurate e.g. ISINs are unable to capture the whole range of trades, and the reports have largely been ignored with investors preferring to consult broker reviews. The requirement is effectively suspended for a little over one year and is likely to be extended. However, expensive reporting systems are already in place- removing the obligation is likely to prove more complex than continuing. Rather than adressing the many issues with Best Execution reporting, the suspension just kicks this can down what may prove to be a long road.
- Selectively re-bundling Research Unbundling. The amendment allows an investment firm to disapply the explicit charges for Research if the Research applies to firms with a market capitalisation of less than EUR1bn., or if the Research apples only to fixed income instruments. Once again, firms have already invested in systems and amended their documentation to comply in full, selective Regulatory tinkering is likely to result in more complexity not less. The Research Unbundling aspect of MiFID II was controversial at the time; post-implementation, it’s not clear that it needs partially fixing.
- Exemption of “make whole” corporate bonds from Product Governance rules. In the event of early redemption, a make-whole clause obliges an issuer to include the NPV of the coupon which would have been paid. It is a welcome adjustment, but its scope is Regulatory fine-tuning (nit-picking YMMV) – why bond coupons, but not equity dividends? Unsurprisingly, the Parliament Committee has already proposed a boarder exemption.
- Phase-out of paper-based communication as a default. Electronic communications as a default is obviously a reality, and its recognition should be welcomed. However, retail clients retain the option for paper. So- so what?
- Professional Client opt-out from switching cost/benefit analyses. However, they still retain the option- see above.
- Limitation of position limits to only apply to significant\critical and agricultural contracts. Art. 57 MiFID II has had a negative impact on liquidity in new(‘ish) commodity markets such as energy derivatives. The amendment redefines the position limit requirement to effectively exclude these markets.
A roughly 1.3 million page Regulation is enacted, inevitably a “Curate’s Egg”- some good and some bad[1]. Participants have to comply irrespective; during the compliance process they may find that some elements that looked a burden, once implemented, actually turn out to be an efficiency or an opportunity. Brexit has thrown up more problems for MiFID II than the CV-19 pandemic. This update fails to address fundamental issues such as liquidity calculation in the sudden absence of major exchanges- preferring to refine or postpone relatively minor elements. Markets evolve quickly, their Regulatory enablers should do so as well. This, admittedly interim, MiFID II update does very little for very few.
Member States are required to adopt implementing measures by 28 November 2021, application is expected by 28 February 2022. From the now third country UK, in August 2020 Treasury Economic Secretary to the Treasury John Glen indicated that the UK would be reviewing the new rules, initially ruling out the UK application of reforms to the Research rules. Another one to add to the divergence dashboard.
[1] We are aware that a “Curate’s Egg” is traditionally a politely described- thoroughly bad egg
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