After years of preparation, the rollout of MiFID II in January provided relatively little drama. But, says PwC’s Luke Nelson, it is early days and Brexit could still complicate matters, so firms should stay on their toes. 

After years of hard work across the industry, the Markets in Financial Instruments Directive II (MiFID II) finally landed on January 3, 2018. With so much time and money invested in achieving compliance with the new regime, there was understandably apprehension about the go-live process. The sheer number of concurrent systems changes sparked fears of a Y2K 'millennium bug' scenario, which would see computers and programs failing, unable to cope with these new demands.

But much like Y2K, fears of the world coming to an end – or at least liquidity disappearing from markets – were unfounded. Beyond some widely anticipated challenges around data and vendor solutions, MiFID II got off to a relatively pain-free beginning.

Regulators’ reprieve

That said, regulators in the UK and Germany did provide one surprise on January 3. The Financial Conduct Authority (FCA) and the Federal Financial Supervisory Authority (BaFin) both gave last-minute reprieves to certain trading venues regarding open-access arrangements that are new under MiFID II.

Under the new rules, central counterparties (CCPs) and trading venues must provide open access to clearing and trading infrastructures. The theory is that such open access can help drive efficiency through competition. By enabling investors to clear trades on different CCPs, they can theoretically benefit from a reduction or netting of clearing margin as well as more general competitive dynamics.

So what precisely did the UK and German regulators do? MiFID II allows national regulators to grant transitional arrangements to trading venues and CCPs, which result in a delayed application of the open access requirements. The transitional arrangements are only available in the context of exchange-traded derivatives (ETDs) and trading venues must fall below a threshold of €1000bn notional in ETDs in a calendar year to be eligible.

The FCA granted such transitional arrangements to the London Metal Exchange and ICE Futures Europe, while BaFin did the same for Eurex. As a result, these venues will not be required to consider open access requests made under Article 36 of Markets in Financial Instruments Regulation insofar as they relate to ETDs, until the expiry of the transitional period on July 3, 2020.

Confusing the industry

It is fair to say the announcements were met with some confusion in the industry, which was likely exacerbated by their timing on the MiFID II go-live day. The headlines in the financial press meant some who had not been particularly close to MiFID II misinterpreted the news and believed the venues had been offered a reprieve from MiFID II in its entirety. But in reality and in the grand scheme of the MiFID II changes, the announcements were not particularly significant and should not have prompted any immediate operational adjustments for investment firms.

There is some debate around why the transitional arrangements were agreed and why they were announced as late as January 3. One school of thought suggests that the applications for transitional arrangements were granted because operationally providing open access for ETDs is difficult.

But there is also a notion that the announcements, and particularly their last-minute timing, were driven partly by the UK’s forthcoming withdrawal from the EU. As widely reported for some time, clearing has been a politically sensitive issue and the UK and Germany may have looked favourably on applications that would ensure the status quo is maintained for at least some of the cleared derivatives world.

FCA sharpens focus

So what is next for MiFID II? Despite the immense efforts taken to get us this far, it is not quite yet ‘job done’. In the UK, the FCA has been clear that it expects firms to have plans and timelines in place to remediate any known compliance issues and be sufficiently resourced to react to additional regulatory guidance. Transaction reporting is likely to be an immediate supervisory focus for the UK regulator, and it is likely to look at how firms have tackled other high-profile areas such as best execution and research unbundling before too long.

The European Securities and Markets Authority (ESMA) has indicated it will continue to provide clarifications through updates to its question and answer documents during the first half of 2018, and firms should stand ready to implement any changes as necessary. ESMA also has an open consultation that may bring changes to the quoting obligation for investment firms, which act as systematic internalisers in equity products. It closes on January 25.

Further on the horizon, Brexit brings particular technical challenges for MiFID II. Many mechanisms introduced in MiFID II were considered before the UK voted to leave the EU. For example, liquidity thresholds and the systematic internaliser calculation are likely to be materially affected if UK trading volumes are not included in EU-wide measures. Notwithstanding a transitional arrangement that neatly tackles these issues, firms in the UK and the rest of the EU should be flexible in their approaches to deal with adjusting to changes as they arise.

So while the industry can reflect on what has been a major achievement in getting MiFID II over the line, a number of challenges are still to come.

Luke Nelson is senior manager at PwC’s Financial Services Centre of Excellence.

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