MiFIR and MiFID II review: ten key things that EU financial institutions should know

Introduction

Following more than two years of debate, the legislative review of the proposed amendments to Regulation (EU) No 600/2014 on markets in financial instruments (MiFIR) and Directive 2014/65/EU on markets in financial instruments (MiFID II) is coming to an end. On 16 January 2024, the European Parliament formally adopted in a plenary vote the amendments to both pieces of draft legislation: MiFIR amending regulation and MiFID amending directive.

Whilst two procedural steps are still to occur – the Council formally approving the draft amending legislation and the draft amending legislation being published in the Official Journal of the EU – the European Parliament’s adoption of the draft measures provides some certainty that the legislative review is over and that the draft text is now settled. This note is based on the draft texts approved by the European Parliament and provides EU financial institutions with a high-level overview of ten key changes that are being made to the MiFIR / MiFID II regime.

Key changes

1. Consolidated tape

   The establishment of a regulatory regime allowing for creation of a fully functional consolidated tape has been a key priority of the European Commission (Commission) for the MiFIR review and the proposed amendments were designed to fix the failure of the existing MiFID II framework that did not result in authorisation of a consolidated tape provider (CTP). With diverging views amongst various categories of European market participants and amongst the co-legislators, the issue of setting a new framework for a consolidated tape has been one of the major contentious points in the course of the review. The agreed compromise will introduce mandatory contribution of market data to a CTP by data contributors (trading venues and approved publication arrangements (APAs)) “as close to real time as technically possible” but does not require market participants to make use of the core market data provided by the CTP. The revised consolidated tape regime foresees an opt-in mechanism for small trading venues, i.e. those whose annual trading volume of shares represents 1% or less of the annual trading volume of shares in the EU, subject to additional conditions. The revised MiFIR also seeks to fix the data quality issues by setting out that where necessary, the requirements for the quality and substance of the data should be set out in regulatory technical standards (RTS). There will be a single CTP per asset class, selected via a competitive tender process by the European Securities and Markets Authority (ESMA) for a period of five years. The CTPs will be selected in phases, starting with bonds, followed by shares and exchange traded funds, and finally over-the-counter (OTC) derivatives.

2. Transparency (equities)

   Amendments to MiFIR sought to alleviate the complexities of the double-volume cap regime for equities, by replacing it with a 7% single-volume cap, applicable to trading under the referenced price waiver. The level of single-volume cap will be subject to ongoing monitoring by the ESMA and prospective adjustments by the Commission via delegated acts.

3. Transparency (non-equities)

   The revised MiFIR limits the pre-transparency obligations for market operators and investment firms operating trading venues to publish firm or indicative quotes in bonds, structured finance products and emission allowances only when operating central limit order books and periodic auction trading systems; other trading systems – notably voice trading and request-for-quote – will be not be required to do so. Accordingly, the requirements for the pre-trade waiver have been amended and the waiver that is available above a size specific to the financial instrument will be removed for request-for-quote systems and for voice trading systems. The revised MiFIR also clarifies application of the deferred publication waiver, by harmonising the deferral regime and removing the national discretion in that area. In respect of bonds, structured finance products and emission allowances, the categories of transactions for which deferrals will be allowed should be determined taking into account the size of the transactions and the liquidity of the financial instruments concerned; the details of the revised regime are to be set out in the RTS. For bonds, the arrangements for deferred publication will be organised around five categories, using size of a transaction and liquidity of the market as factors.

4. Transparency (derivatives)

   Acknowledging the difficulties that were posed by the “traded-on-a-trading venue” concept for derivatives, the revised MiFIR establishes a separate pre- and post-trade transparency regime for such instruments. As such, the application of the transparency regime to derivatives will depend on the pre-defined characteristics of a derivative, rather than the trading modalities. The new regime will capture all sufficiently standardised derivatives, including all exchange-traded derivatives and centrally cleared derivatives that are subject to the trading obligation, and centrally cleared credit default swaps. Also, similarly to other non-equities, the pre-transparency obligations for market operators and investment firms operating trading venues to publish firm or indicative quotes in exchange-traded and certain OTC derivatives will apply only when operating central limit order books and periodic auction trading systems. The duration of post-trade transparency deferrals for derivatives will be set out in RTS on the basis of the size of the transaction and liquidity of the class of derivative. Akin to bonds, the arrangements for deferred publication in respect of exchange-traded derivatives or of OTC derivatives will be organsied using five categories, taking the size of a transaction and liquidity of the market as the defining factors. In respect of trading venues’ referenced data provision obligations, the revised MiFIR mandates the Commission to set out via a delegated act the identifying reference data to be used with regard to OTC derivatives, including a unique identifier and any other relevant identifying reference data. Transactions on OTC derivatives that are formed and established as a result of post-trade risk reduction services should not be subject to the transparency requirements.

5. Reasonable Commercial Basis (RCB)

   Responding to a conclusion that the existing obligation for market operators and investment firms operating trading venues to make the pre-trade and post-trade information on transactions in financial instruments available to the public on the RCB basis has “not delivered on its objectives”, the revised MiFIR converts the 2021 ESMA guidelines on market data into legal requirements. The obligation to publish data on the RCB basis will apply to market operators and investment firms operating a trading venue, APAs, CTPs and systematic internalisers; they will have to ensure non-discriminatory access to such information as well as to provide “unbiased and far contractual terms”, and publish data policies. The details of the RCB concept are to be set out by ESMA in the RTS, including the notion of “unbiased and fair contractual terms” and what constitutes non-discriminatory access. ESMA will also be tasked with monitoring and assessing developments in data policies and data price-setting in the market.

6. Systematic internalisers (SIs)

   The revised MiFIR changes the quoting obligations for SIs, and determines that equity SIs will be required to make public firm quotes on the basis of a minimum quote size that is to be determined via the RTS. The SIs will be allowed to match orders of any size at mindpoint. In respect of non-equities, the revised MiFIR removes an obligation for SIs to publish firm or indicative quotes; the SIs will still be allowed to do so on a voluntary basis.

7. Designated publishing entity and reporting requirements

   The revised MiFIR introduces a status of a “designated publishing entity” that will allow investment firms to be responsible for making a transaction public through an APA without the need to opt into the SI status. Investment firms will be able to obtain the status of a designated publishing entity for specific classes of financial instruments; ESMA will maintain a public register of designated publishing entities per class of financial instrument. Other changes to the reporting requirements set out that in respect of OTC derivatives, only such derivatives executed on a trading venue are to be reported, together with those transactions in OTC derivatives executed off venue that are subject to transparency requirements or if the underlying is traded on a trading venue or is an index or basket composed of financial instruments that are traded on a trading venue.

8. Payment for order flow (PFOF)

   One of the most debated provisions in the context of the legislative review concerned PFOF. The final text prohibits financial intermediaries when acting on behalf of retail clients or clients that have opted up to the professional client regime, to receive a fee, a commission or a non-monetary benefit from any third party for executing orders from those clients on a particular execution venue or for forwarding orders of those clients to any third party for their execution on a particular execution venue. Nevertheless the agreed compromise provides a discretion for Member States that allows such practice prior to revised MiFIR entering into force, to exempt investment firms under their jurisdiction from this overall prohibition until 30 June 2026.

9. Best execution

   Under the current MiFID II framework, execution venues are required to publish detailed reports related to the obligation to execute orders on terms most favourable to the client. These so-called ‘best execution reports’ are rarely read and/or used by investors. Two years ago, as part of the MiFID II Quick Fix, the co-legislators agreed to suspend the requirement to publish annual best execution reports for two years. The MiFIR review will make this temporary suspension permanent. This deletion comes in the light of the consolidated tape, which should cover information normally included in the best execution report, such as the European best bid and offer.  

10. Commodity derivatives

Following an intense debate on the prospective amendments to the MiFID II commodity derivatives regime, which was supported by certain MEPs, the final agreement on the MiFID II amending legislation includes a number of mandates for the Commission and ESMA for further assessment work. This includes a mandate for ESMA to develop draft RTS on the principles that the regulated markets are to consider for establishing the main technical parameters for halting or constraining trading and the information that the regulated markets will have to disclose; this delegation results from the concern that during the turbulent circumstances in European energy markets in 2022 there was little transparency on the part of trading venues in respect of mechanisms designed to limit excessive volatility in the markets such as trading halts and price collars. The co-legislators also agreed to mandate the Commission to undertake a comprehensive assessment of the appropriateness of the overall framework for markets for commodity derivatives, for markets for emission allowances and for markets for derivatives of emission allowances. This assessment is to cover the regimes for the position limits and the position management controls, the ancillary activity test and its criteria, as well as data use, collection and publication in relation to transactions concerning commodity derivatives or emission allowance derivatives. If suitable, the assessment reports are to be accompanied by a legislative proposal.