MiFID II delegated Regulations—organisational requirements

Following the adoption of a number of delegated Acts containing implementing and regulatory technical standards, Simon Lovegrove, head of financial services knowledge global at Norton Rose Fulbright, examines the key provisions which will impact on the way UK financial institutions organise their business.

Background

While the revised Markets in Financial Instruments Directive 2014/65/EU (MiFID II) and the Markets in Financial Instruments Regulation (EU) 600/2014 (MiFIR) have been delayed by a year and won’t come into effect until 3 January 2018, the first half of 2016 has been a particularly busy period with the Commission adopting a number of delegated Acts that contain regulatory technical standards and implementing technical standards that add further detail to the framework Directive and Regulation. Indeed, many firms have found it difficult keeping pace with the volume of paper being published, so in June 2016 the European Securities and Markets Authority (ESMA) helpfully published a table setting out the status of each technical standard.

What does the Commission Delegated Regulation of 25 April 2016 cover?

On 25 April 2016, the Commission adopted a Delegated Regulation supplementing MiFID II as regards organisational requirements and operating conditions for investment firms and defined terms for the purposes of the Directive. Accompanying annexes were also published.

What are the headlines in the Delegated Regulation of 25 April 2016 concerning organisational requirements of investment firms?

Chapter II of the Delegated Regulation of 25 April 2016 (arts 21–43) sets out the organisational requirements for investment firms. In particular it sets out procedures in relation to compliance, risk management, internal audit, the responsibility of senior management, complaints handling, remuneration, personal transactions, outsourcing and conflicts of interest. Each of these topics is important in their own right but the headlines include the following:

  1. investment firms are to establish, implement and maintain systems and procedures that are adequate to safeguard the security, integrity and confidentiality of information, taking into account the nature of the information in question
  2. when allocating functions internally, the investment firm must ensure that senior management are responsible for ensuring compliance with MiFID II. In particular, the allocation of significant functions among senior managers should clearly establish who is responsible for overseeing and maintaining the investment firm’s organisational requirements
  3. the management body of the investment firm shall approve, after taking advice from the compliance function, the firm’s remuneration policy
  4. the remuneration policies and practices of the investment firm should not create any conflicts between clients’ interests and those of the firm and such policies apply to all relevant persons who have an impact, directly or indirectly, on the investment and ancillary services provided by the firm or on its corporate behaviour, to the extent that their remuneration may encourage them to act against the interests of any of the firm’s clients
  5. investment firms are to have in place and maintain a complaints management policy that provides clear, accurate and up-to-date information about the complaints handling process. Such policy needs to be endorsed by the investment firm’s management policy. The investment firm must also establish a complaints management function responsible for the investigation of complaints (this can be carried out by the compliance function). Investment firms must also publish the details of the process to be followed when handling a complaint and provide it to a client on request. Investment firms should permit complaints to be submitted by clients and potential clients free of charge. When handling a complaint the investment firm should communicate in plain language and respond without undue delay. The compliance function should analyse complaints and complaints handling data to ensure that any risks or issues are identified and addressed
  6. in the context of outsourcing, the scope of critical and important operational functions and the conditions that an investment firm must comply with when outsourcing them, and
  7. a written conflicts of interest policy should be established, implemented and maintained by the investment firm.
  8. The Delegated Regulation adds, in art 34(2), that such policy must include:
    • with reference to the specific investment services and activities and ancillary services carried out by the investment firm, the circumstances which constitute or may give rise to a conflict of interest entailing a risk of damage to the interests of one or more clients, and
    • the procedures to be followed and measures to be adopted in order to prevent or manage such conflicts

What changes are made to the way firms provide investment services to clients, including any further guidance on best execution?

Chapter III of the Delegated Regulation of 25 April 2016 (arts 44–79) sets out the operating conditions for investment firms. In particular it sets out further information in relation to satisfying the requirement that information addressed to retail and professional clients is fair, clear and not misleading (art 44).

MiFID II introduces the concept of ‘independent’ versus ‘non-independent’ advice, for firms which provide the service of investment advice to their clients. The Delegated Regulation (arts 52 and 53) sets out further information concerning the related disclosures, policies and processes that are required, depending on the status selected by the firm.

The provisions in the Delegated Regulation concerning best execution (arts 64–66) are useful in the sense that they:

  1. set out the criteria that investment firms should take into account when determining the relative importance of factors to establish best execution
  2. note that when executing orders or taking a decision to deal in over-the-counter (OTC) products, investment firms are required to check the fairness of price proposed to the client, by gathering market data used in the estimation of the price of such product and, where possible, by comparing with similar or comparable products
  3. provide further detail as regards the expectations placed on investment firms when carrying out portfolio management and reception and transmission of orders to act in the best interests of the client
  4. set out the requirements for review of the execution policy and what investment firms must provide to clients on the policy

In terms of client order handling (arts 67–70), the Delegated Regulation sets out general principles which are then followed by the conditions that must be met when investment firms wish to aggregate orders and allocate trades, including for own account and the publication of unexecuted client limit orders.

The Delegated Regulation also provides further detail regarding the new telephone taping requirements (art 76). Importantly, this specifies the content requirements of the written telephone taping policy and the fact that the arrangements instituted to comply with the recording requirements are ‘technology neutral’. It also covers the client disclosure requirements.

On record keeping generally it is also worth noting that the annexes set out a prescriptive list of detailed record keeping requirements.

What are the specifications for the purposes of clarifying the obligation of reporting services providers to provide market data on a reasonable commercial basis, which is part of the transparency framework under MiFIR?

The Delegated Regulation of 25 April 2016 (arts 84–89) provides guidance on data provision obligations for reporting services providers (approved publication arrangements (APAs) and consolidated tape providers (CTPs)). The transparency framework under MiFID II provides that reporting services providers are required to provide market data on a reasonable commercial basis.

The articles in the Delegated Regulation discuss the provision of market data on the basis of cost. This is where the price of market data is to be based on the cost of producing and disseminating such data and may include ‘a reasonable margin’. The costs of producing and disseminating market data may also include an ‘appropriate share’ of joint costs for other services provided by the APA or CTP.

APAs and CTPs are also required to make market data available at the same price and on the same terms and conditions to all customers falling within the same category in accordance with published objective criteria. Any differentials in prices charged to different categories of customers is to be proportionate to the value which the market data represent to those customers taking into account:

  1. the scope and scale of the market data including the number of financial instruments covered and trading volume, and
  2. the use made by the customer of the market data, including whether it is used for the customer’s own trading activities, for resale or for data aggregation

The Delegated Regulation also discusses per user fees where the APA and CTP can charge for the use of market data on the basis of the use made by individual end-users of the market data although a derogation from this is also set out and relates to instances where such charging would be disproportionate to the cost of making market data available. However, should an APA or CTP refuse to make market data available on a per-user basis it must publish the grounds for its refusal on its website.

Finally, the Delegated Regulation covers the transparency obligation, where APAs and CTPs are to disclose and make easily available to the public the price and other terms and conditions for the provision of market data. The Delegated Regulation (art 89) sets out what the disclosure should include.

What are the criteria for determining when the operations of a regulated market, a multilateral trading facility (MTF) or organised trading facility (OTF) are of substantial importance in a host Member State?

At the very end of the Delegated Regulation of 25 April 2016 (art 90) further guidance is given for regulators when determining whether the operations of a regulated market, an MTF or OTF are of substantial importance to a host Member State. The background to this provision can be found in art 79(2) of MiFID II and concerns the establishment of cooperation arrangements between a trading venue’s home and host Member State competent authorities.

In terms of MTFs and OTFs the Delegated Regulation refers to the trading venue being registered as a small- and medium-sized enterprise growth market or having a market share of at least 10% of trading in terms of total turnover in monetary terms in on-venue trading and systematic internaliser trading in the host Member State in at least one asset class subject to the transparency obligations in MiFIR.

Interviewed by Susan Ghaiwal.

The views expressed by our Legal Analysis interviewees are not necessarily those of the proprietor.

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