8th December 2017
A wave of anticipation spread as Foreign Exchange brokers rushed to ensure they were fulfilling the requirements of the most far-reaching financial regulation to date. Set to go live on January 3, 2018, MiFID II is a reconditioned version of Markets in Financial Instruments Directive. This extensive piece of legislation –which took seven years to design and has more than 1.4m paragraphs –aims to bring transparency into the financial markets and offer greater protection to foreign exchange, exchange-traded funds, equities and fixed income.
The main aims:
This legislation aims to make European markets safer, transparent and more efficient. It seeks to restore investor confidence following the financial crisis and move a significant part of over-the-counter trading on to regulated trading venues.
While the previous version of Markets in Financial Instruments Directive focused more on exchange-traded equity trades and derivatives based on equities. MiFID II will be affecting all equity markets, fixed income, commodities, currencies, futures, exchange-traded products, hedge funds and retail derivatives in the United Kingdom.
Everyone. Yes, that’s correct, this financial reform will affect banks, exchange trading venues, fund managers, high-frequency traders, pension funds, brokers and retail investors. Global companies with subsidiaries and non-EU institutions that are dealing with clients in the UK will also have to abide by these rules.
The original Mifid was intended to reduce the trading cost for investors and end stock exchanges monopoly, but the arrival of the financial crisis exposed its shortcomings. The revamped version is more structural and ambitious. It is designed to tackle the under-regulated aspects of the economic system. Not only that, but it will also update the existing rules to keep pace with the technological advancements.
The start of 2018 will now see an increased scrutiny into the operations of the brokers. Currently, FX firms aren’t obliged to disclose how client’s transactions are handled or executed. But after the implementation of MiFID II, firms will have to reveal whether transactions were completed by them or sent through the market. This will significantly affect the methodology of the marketing departments of FX firms who opt for marketing strategies around a particular execution model like segmenting-targeting-positioning (STP) or electronic communication network (ECN).
MiFID II will require FX brokers to explain the logic of VWAP (volume weighted average price) trade execution to the clients if their order was executed using multiple fills. FX brokers will now be required to disclose the amount of the additional markups they incorporate in their pricing upon the request of their client.
Trades will now be time-stamped, and information in documents must be stored for a minimum of five years. Where brokerage firms will probably have to restructure their operations for the circulation of data, honest brokerage firms will no longer have to suffer from low-quality services offered by fraudulent brokers.
Because this regulation will affect corporations all over the world, the EU firm will probably have to monitor the quality of execution of non-EU managers. Brokers from places other than the EU will have to prove they are following a specific order execution policy to the EU- based firm. Soon US brokers may come under the pressure to follow European regulations.
MiFID II is also mandating the Legal Entity Identifier (LEI) which is a unique identifier associated with a single legal institution and provides consistent identification of parties to financial transactions.
FX brokers will need an International Securities Identification Number (ISIN). Brokers must make sure that the equity does not have an ISIN that is listed in the EU.
The MiFID II has a wide range of requirements, from archiving communications to transparency reporting and demonstrating best execution. It will create a lot of challenges non-EU asset managers, but this effort for transparency is great for the market. This endeavor hopes to eradicate unscrupulous traders from the financial market. At the start of next year, businesses are expected to decelerate for a while as the industry will mold their systems towards a new direction.