Drawing lessons from the 2008 financial crisis, the G20 agreed at the 2009 Pittsburgh summit on the need to improve the transparency and oversight of less regulated markets – including derivatives markets - and to address the issue of excessive price volatility in commodity derivatives markets.
In response to this, the European Commission has today tabled proposals to revise the Markets in Financial Instruments Directive (MiFID). These proposals consist of a Directive and a Regulation and aim to make financial markets more efficient, resilient and transparent, and to strengthen the protection of investors. The new framework will also increase the supervisory powers of regulators and provide clear operating rules for all trading activities. Similar discussions are taking place in the United States and other major global financial centres.
In force since November 2007, the original Markets in Financial Instruments Directive (MiFID) governs the provision of investment services in financial instruments (such as brokerage, advice, dealing, portfolio management, underwriting, etc.) by banks and investment firms and the operation of traditional stock exchanges and alternative trading venues ( so-called multilateral trading facilities. While MiFID created competition between these services and brought more choice and lower prices for investors, shortcomings were exposed in the wake of the financial crisis.
Key elements of the proposal:
More robust and efficient market structures: MiFID already covered Multilateral Trading Facilities and regulated markets, but the revision will now bring a new type of trading venue into its regulatory framework: the Organised Trading Facility (OTF). These are organised platforms which are currently not regulated but are playing an increasingly important role. For example, standardised derivatives contracts are increasingly traded on these platforms. The new proposal will close this loophole. The revised MiFID will continue to allow for different business models, but will ensure all trading venues have to play by the same transparency rules and that conflicts of interest are mitigated.
In order to facilitate better access to capital markets for small- and medium-sized enterprises (SMEs), the proposals will also introduce the creation of a specific label for SME markets. This will provide a quality label for platforms that aim to meet SMEs' needs.
Taking account of technological innovations: Furthermore, an updated MiFID will introduce new safeguards for algorithmic and high frequency trading activities which have drastically increased the speed of trading and pose possible systemic risks. These safeguards include the requirement for all algorithmic traders to become properly regulated, provide appropriate liquidity and rules to prevent them from adding to volatility by moving in and out of markets. Finally, the proposals will improve conditions for competition in essential post-trade services such as clearing, which may otherwise frustrate competition between trading venues.
Increased transparency: By introducing the OTF category, the proposals will improve the transparency of trading activities in equity markets, including "dark pools" (trading volumes or liquidity that are not available on public platforms). Exemptions would only be allowed under prescribed circumstances. It will also introduce a new trade transparency regime for non-equities markets (i.e. bonds, structured finance products and derivatives). In addition, thanks to newly introduced requirements to gather all market data in one place, investors will have an overview of all trading activities in the EU, helping them make a more informed choice.
Reinforced supervisory powers and a stricter framework for commodity derivatives markets: The proposals will reinforce the role and powers of regulators. In coordination with the European Securities and Markets Authority (ESMA) and under defined circumstances, supervisors will be able to ban specific products, services or practices in case of threats to investor protection, financial stability or the orderly functioning of markets. The proposals also foresee stronger supervision of commodity derivatives markets. It introduces a position reporting obligation by category of trader. This will help regulators and market participants to better assess the role of speculation in these markets. In addition, the Commission proposes to empower financial regulators to monitor and intervene at any stage in trading activity in all commodity derivatives, including in the shape of position limits if there are concerns about disorderly markets. The G20 Summit in Cannes on 3 and 4 November will also address the issue of commodity derivatives.
Stronger investor protection: Building on a comprehensive set of rules already in place, the revised MiFID sets stricter requirements for portfolio management, investment advice and the offer of complex financial products such as structured products. In order to prevent potential conflict of interest, independent advisors and portfolio managers will be prohibited from making or receiving third-party payments or other monetary gains. Finally, rules on corporate governance and managers' responsibility are introduced for all investment firms.
Next steps: The proposals now pass to the European Parliament and the Council (Member States) for negotiation and adoption. Once adopted the Regulation, the Directive, and the necessary technical rules implementing these will apply together as of the same date.
See also MEMO/11/716