Europe's regulatory regime for the trading of securities is overhauled this week by the Markets in Financial Services Directive (MiFID). The new law comes into force on 1st November.
MiFID aims to increase competition among exchanges, multilateral trading facilities (MTFs) and investment firms, giving them a 'single passport' to operate throughout the EU on the basis of authorisation in their home Member State. Investors will have access to a greater number of trading venues and high levels of protection.
The European Commission issued a warning today to the member states that have not yet transposed the Directive. Internal Market Commissioner Charlie McCreevy said: "I would like to urge those Member States who have not transposed to hurry up – such lack of action will damage their own firms."
Only the UK, Ireland and Romania met the Directive's implementation deadline of 31st January 2007. Most other EU member states have since implemented the Directive. Finland is among a few states that anticipate achieving compliance this month, while Spain has advised the Commission that it will be only partially compliant this month. Poland has reported to the Commission that it is "impossible to estimate" when it will implement the law.
Background to MiFID
The following is an edited version of the European Commission's FAQ about MiFID
MiFID sets out a comprehensive regulatory regime covering investment services and financial markets in Europe. It replaces the Investment Services Directive (ISD) of 1993 and is a cornerstone of the Commission's Financial Services Action Plan (FSAP).
It contains measures which aim to change and improve the organisation and functioning of investment firms, facilitate cross-border trading and thereby encourage the integration of EU capital markets.
The levels of MiFID
MiFID is being adopted using a legislative approach known as 'the Lamfalussy Process,' named after the former Head of the European Monetary Institute, Baron Alexander Lamfalussy. Lamfalussy Directives are split into two levels: the Level 1 Directive which establishes the guiding principles of the legislation agreed in co-decision by the European Parliament and European Council; and the Level 2 implementing measures. The advantage of this approach is that it allows the Council and Parliament to focus on the key political decisions, while technical implementing details are worked through afterwards. This flexibility is intended to allow for more rapid and frequent adaptation of the legislation so that it can keep pace with market and technological developments.
Since April 2004, Member States have been transposing the Level 1 Directive and preparing the transposition of the Level 2 Directive into their national legislation.
The provisions of the Level 1 Directive
The Level 1 Directive abolishes the so called ‘concentration rule’ (in other words, Member States can no longer require investment firms to route orders only to stock exchanges). This means that, in many Member States, exchanges will be exposed to competition from multilateral trading facilities (MTFs), i.e. non-exchange trading platforms and ‘systematic internalisers’, i.e. banks or investment firms who systematically execute client orders internally on own account (rather than sending them to exchanges).
MTFs and 'systematic internalisers' will be subject to similar pre- and post-trade transparency requirements as the exchanges. This will ensure a level playing field between the exchanges and their new competitors – and full information on trading activity to the market.
The Level 1 Directive also updates the ‘single passport’ for investment firms, which was first introduced in the ISD. It extends the list of services and financial instruments covered to bring it into line with the new market realities. For example, investment advice is covered for the first time. This reflects modern trends since more and more retail customers are investing in securities and seeking advice from their bank or their broker. This will allow investment firms to provide services across the EU on the basis of a single authorisation from their "home" Member State.
At the same time, investor protection rules are strengthened and harmonised at a high level to make investors feel confident in using the services of investment firms, wherever those firms originate from in the EU.
The provisions of the Level 2 Directive
The Commission can only adopt Level 2 measures in those areas where the Level 1 Directive specifically gives it the power to do so. This applies to just 18 out of 73 provisions in the Level 1 Directive.
The main areas covered are:
conduct of business requirements for firms, e.g. their obligation to divide their clients into different categories ("eligible counterparties", "professional" and "retail"), their obligations towards each category of client, their obligation to assess whether the products and services which they provide are "suitable" or "appropriate" for their client and their obligation to secure "best execution" for their clients (i.e. the best possible result with the emphasis on best price for retail investors).
organisational requirements for firms and markets, e.g. compliance, risk management and internal audit functions that operate independently, identification and management of conflicts of interest and limitations on out-sourcing, especially to third countries;
transaction reporting to relevant competent authorities of buy and sell transactions in all financial instruments;
transparency requirements for the trading of shares (i.e. pre and post trade transparency for regulated markets, MTFs and 'systematic internalisers') to ensure a level playing field between exchanges, MTFs and systematic internalisers for the trading of the most liquid shares in Europe.