23 April 2014

Bowles: MiFID – Dog days, dogs of war and dogs that didn't bite

There are some of the key outcomes and a flavour of how the negotiations went in trialogue:

On investor protection we achieved reinforced rules on selling practices, remuneration and inducements and a requirement for firms to meet the need of an identified target market and to monitor what happens in practice. The new provisions do not go as far as some of the recent UK RDR provisions and the UK is able to continue to apply RDR, but for some countries the changes are quite a shock. There was a real tussle with Germany over even mentioning insurance in a recital. However, the Parliament has subsequently had another small victory on that within the context of PRIPS.

On Market Structure a new category of Organised Trading Facility was introduced. Originally, the Commission proposed that this cover both equities and non-equities with a strict ban on use of own capital to facilitate client trades, including a ban on matched principal trading. The Parliament insisted that the OTF regime be only available for non-equities, but also agreed that matched principal trading should be permitted recognising that it was of importance for some less liquid government debt.

Dark trading was a concern all round in the Parliament, and for some Member States, and equity waivers was a battle royal with wheeling and dealing right to the end; the reference price waiver and negotiated trade waiver came under particular pressure. The Commission changed its mind to oppose retaining all four waivers, despite that being in its original position, and that fanned the left of the Parliament to kick up similarly during negotiation. In the end we adopted strict limits on the equity transparency waiver using the EU-wide and per venue cap of the Council position but all four waivers are maintained in some form. Had the balances not been so fine in Council and the Commission not changed tack so late, I think an Australian style price improvement regime coupled with a dynamic cap arrangement might have won out, although on the Parliament side the Socialists were sceptical.

Transparency rules have been extended to include bonds and derivatives, with some waivers for those over a certain size and modifications for less liquid sovereign bonds. This was an improvement over the one-size-fits all approach of the original Commission proposal that would have extended the equities regime without calibration and which had support of some Member States.

Access Provisions also went up to the wire in the final trialogues. Here the Commission had proposed non-discriminatory access from European trading venues to Central Counterparty clearing and vice-versa. In the Parliament the access provisions were deleted as part of a majority left-right deal that I could never understand but seemed to be a deal with market structure. However, in trialogue the position was recovered to Member States having an option to delay the access provisions by two and a half years, but no delay for the OTC market. This means that vertical integration will be opened up, so too will benchmark licensing on reasonable commercial terms. The delay may irritate some, but that goes with the no savaging.

Commodities were one of the highest profile issues in the Parliament. Extremely aggressive lobbying took place by NGOs concerned about food prices and blaming lack of position limits. This included door-stepping and taking photos of MEPs, breaking into committees for protests, and name and shame press articles and letters to morally blackmail anyone not signing up to exactly the wording the NGOs wanted.

The Parliament did want a European-based regime, and the final trialogue debate centred around how far could that be controlled by ESMA and how far could it be in the hands of the national regulator. Venue based control got lost in the squeeze. There was concern not to damage liquidity or corporate hedging but at the same time recognising the need to prevent market distortion and ensure convergence between spot and futures prices. The end deal gives limits set by national competent authorities based on methodology set by ESMA. The level 2 issue will be how far methodology is a strict formula, and the battle lines are already being drawn; the essence of the trialogue deal was that it was not a strict formula, but the Commission are rumoured to have other plans.

Algorithmic and high frequency trading was another issue of general concern to the Parliament, where we even pressed for minimum resting time. The final outcome is a full set of measures on HFT including circuit breakers to interrupt trading in disorderly conditions, testing of algorithms, written agreements between trading venues, and those algorithmic traders acting as liquidity providers setting out their obligations - this was instead of having to operate continuously - and for strict controls on those allowing their clients direct electronic access to trading venues. Time will tell whether this will be sufficient, but the controls inserted are looking similar to much of the recent press reportage of the US debate on these issues.

And finally, because the Parliament never forgets about SMEs, The Parliament doubled the average market capitalisation threshold for SME markets within the MTF category to 200 million Euros.

During the course of this mandate, and through the work of ESMA in particular which has been first up to have to tackle these issues in the new legislation, the looking at outcomes is moving in the right direction. It has been recognised that particularly in lesser developed markets it is necessary to look beyond legislation and include supervisory rules and rules of institutions and exchanges themselves to determine the outcome. This is especially the case with CCPs.

At times there are extra territorial effects. The reasoning here is that if large banks and corporations are exposed, such as through clearing even if the trade is not European, then there could be transmission of risk and instability into the EU.

I have heard arguments that this is unfair because banks in the US do not have to suffer the same potential capital charge - no, but they may well have to set up a holding company! And as I said, an enlightened regime is breaking out too. However, there is an issue for small entities and maybe these could have been dealt with in a 'small exposure' regime. Maybe this is something for the future when the paranoia about loopholes has calmed to realism.

Full speech

© Sharon Bowles