No 24 (December 2000/Décembre 2000/Dezember 2000)

The European Commission has recently published a Communication on upgrading the Investment Services Directive (ISD). It is designed to launch an extensive review of how this legislation, now in force for five years, could best be updated to reflect the profound changes in investment services and the securities trading infrastructure in the European Union. The Communication has been identified by the Commission as one if its ten priorities in the next six months under the Financial Services Action Plan (FSAP - see SMN 17). The need to update EU rules to take account of the accelerating pace of change in European financial marketswas emphasised in the initial report presented on 9 November by the Committee of Wise Men on the Regulation of European Securities Markets chaired by Alexandre Lamfalussy (see Special Feature). Furthermore, the European Commission has published another Communication on the application of “conduct of business rules” to investment firms as regards both “professional investors” and others investors. The way in which these rules are applied can also have a profound bearing on the ability of investment firms to use the ‘single passport’ conferred on them by the Investment Services Directive.

The Investment Services Directive (93/22/EEC) has helped to create a Single Market in securities by eliminating a first set of legal obstacles. It introduced the ’single passport’ for investment firms whereby a firm can, in principle, operate EU-wide on the basis of mutual recognition of authorisation and supervision by its home Member State. This ’single passport’ is widely used and access to "regulated markets" and exchanges has been liberalised. But it now needs extensive review so as better to reflect the market change that is witnessed by exponential growth in equity volumes (over 30% per annum in the years 1995-1999) and the erosion of national financial frontiers.
The ISD Communication is set against the backdrop of these massive structural changes are reshaping investment services business and securities markets.
This consultation document provides a broad canvas of the many new regulatory challenges as they affect investment firms, exchanges and trading systems and clearing and settlement activities. The consultation, which runs until March 31 2001, focuses on the following broad areas:
• A fully operational single passport for investment firms: the legal and practical conditions need to be created to facilitate the progressive elimination of remaining obstacles to the cross-border provision of investment services subject to home country authorisation.
Revision of the ISD should create the legal environment in which the passport can become immediately effective for interprofessional business and be progressively extended to cover provision of services to retail investors.
• New forms of service provision: technology has spurred the emergence of novel forms of service provider, such as Alternative Trading Systems (ATSs) which compete with existing investment firms and, occasionally, infrastructure providers. The ISD should allow European securities supervisors to apply suitably calibrated and common safeguards to such systems, so that they can operate across the Union.
• Effective competition between exchanges and trading platforms: the ISD should allow newly commercialised exchanges and trading platforms to compete effectively and prudently for trading volumes without undue regulatory or supervisory impediment. Neither should competition be driven by excessive regulatory arbitrage which could jeopardise the orderly and efficient functioning of markets and investor protection. Regulatory and supervisory arrangements for European trading platforms and exchanges should reflect a collective “first-best” assessment of risks and opportunities.
ISD provisions for “regulated markets” should therefore be expanded to provide a legal underpinning for these core benchmarks – particularly those relating to transparency and disclosure.
• The growing cross-border dimension of clearing and settlement: European level consolidation of clearing is gathering momentum. This efficiency-enhancing development concentrates systemic risk and increases the threat of cross-jurisdictional conflict. Mutual confidence in risk-management techniques and supervisory cooperation will be of central importance. Collective attention is urgently needed in the area of clearing and the remaining technical and legal impediments to linkages between securities settlement.

This Communication forms part of a concerted strategy to reinforce EU legislative framework for securities markets. Other forthcoming actions include proposals for legislation for a single passport for issuers and on market abuse. Of paramount importance in this regard are the recommendations of the Committee of Wise Men on Securities Markets (Lamfalussy Group). The Group of Wise Men are charged with the task of devising scenarios for improving the process of EU legislation in the field of securities markets so as to ensure its optimal implementation and continued relevance to market developments. The Group of Wise Men published its interim report on 09.11.00, and is scheduled to deliver its final report in February 2001.
The review of the ISD, and the substantive analysis of the present Communication in particular, is perfectly complementary to this work. The Lamfalussy group is responsible for improving the process of rule-making, supervision and enforcement of common securities provisions – the “how” question. The review of the ISD attempts to build a consensus on the substantive content of EU legislation – the “what” question. In order to allow respondents to this Communication the possibility to integrate the recommendations of the Lamfalussy Group into their submissions on improvements to the ISD, the consultation period will extend until March 31, 2001.

Investor protection rules

The related Communication of Article 11 of the ISD represents the Commission’s analysis of how Member States have implemented conduct of business rules for investor protection. It provides some guidance on how national implementation of these investor safeguards in a manner which is more supportive of EU passporting rights. It is essentially therefore a snapshot of current practice, accompanied by some non-binding Commission guidance on future implementation. The Investment Services Directive (Article 11) lays down common principles for Member States to apply so-called ‘conduct of business rules’ to investment firms operating on its territory. In doing so, it provides for a degree of approximation of these important rules which govern the dealings of authorised investment firms with investors and their conduct on securities markets. This degree of harmonisation aims to enable authorised investment firms to provide services in other Member States without, in principle, encountering additional legal or administrative requirements ("single passport"). Despite this basic level of harmonisation,
large numbers of investment firms find that in practice they have to comply with two sets of conduct of business rules – the rules of the home country of the service provider to which they are automatically subject, and those of the country of the investor which generally opt to impose their local rules on incoming investment services. The present Communication develops a solution which would limit cases of duplication of conduct of business protections to cases where it is objectively required – primarily to protect the interests of retail investors.

According to Article 11(1) of the ISD, national authorities are required to distinguish between professional and other investors when implementing conduct of business rules. To date, compliance with this requirement has not been systematic – partly because there has been no common understanding of what constitutes a "professional investor". Recently, national securities commissions (meeting in the Forum of European Securities Commissions: FESCO) have concluded an understanding as regards the classification of investors for the purposes of applying conduct of business rules. In its new Communication, the Commission invites national authorities to ensure that this distinction is effectively implemented.

A formal modification of the ISD Directive will be needed to ensure legal certainty and give force of law to all elements of the approach proposed in the Article 11 Communication. These issue features therefore feature prominently in the consultative Communication on up-grading the ISD (above). Nevertheless, national authorities can expedite early improvement in the current situation by throwing their weight behind these proposals. In particular, national authorities can contribute to the rationalisation and simplification of the regulatory (conduct of business) environment for inter-professional business by ensuring that the distinction between professional and retail investors as agreed by their securities regulators (meeting in FESCO) is effectively implemented in national law.

The present Communication can also be seen as a supplement to the broader consultation: it provides a more detailed basis for informed discussion with national authorities and interested parties on one possible approach to an improved application of conduct of business rules. In responding to the Communication on “upgrading the ISD”, respondents are invited to take account of the directly relevant analysis in the present Communication.
The Article 11 Communication does not give rise to any legal obligations. Nor should it be construed as the Commission’s interpretation of relevant jurisprudence of the ECJ.

Both Communications are available on the Internet: http://ec.europa.eu/internal_market/en/finances/mobil/index.htm

La Commission européenne a récemment publié une Communication sur la modernisation de la Directive concernant les services d’investissement (DSI). Elle lance une large consultation (jusqu’au 31 mars 2001) afin de déterminer la meilleure manière de moderniser cette législation, en tenant compte des profondes mutations que connaissent les marchés des valeurs mobilières dans l’Union européenne. Cette Communication constitue l’une des dix priorités fixée par le Plan d’action pour les services financiers (voir SMN 17 et le Dossier spécial dans ce numéro). Par ailleurs, la Commission a également publié une Communication concernant le respect de "règles de conduite professionnelle" (application de l’article 11 de la DSI). Ces règles sont indispensables pour assurer un niveau adéquat de protection à tous les investisseurs et la façon dont elles sont mises en oeuvre peut fortement influer sur la capacité des entreprises d’investissement à faire usage du "passeport unique" que leur octroie la DSI. Le texte de ces deux Communications est disponible sur Internet.

For more information,
please contact
Niall Bohan
MARKT F-3
TEL: +32 (0) 22 96 30 07
FAX: +32 (0) 22 99 30 75

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