MiFID II: how firms can ensure compliance for year three

The EU’s Markets in Financial Instruments Directive (MiFID) II and its sister regulation Markets in Financial Instruments Regulation (MiFIR) came into force in 2018, superseding the previous Markets in Financial Instruments Directive 2004/39/EC (MiFID I). MiFID II set out rules for investment firms dictating how they should interact with investors and how they should organise the markets where the trading takes place. The aim was to level the playing field with regards to competitiveness and harmonised investor protection across Europe. However, for a few firms implementing the new regulations has been challenging. 

MiFID II established a brand-new reporting regime, which led to a significant amount of data being reported to regulators. MiFID II provisions require additional administrative requirements including – but not limited to – the collection and retention of a large volume of client and counterparty information, inclusive of all electronic communications data, which can be a cumbersome task. 

For example, firms are required to keep records (such as emails and recordings of telephone conversations) produced under Article 16(7) of MiFID II for five years, with the extension to seven years, if requested by the competent authority. Firms have struggled to meet these administrative requirements, which was reflected in the report ‘Sanctions and measures imposed under MiFID II in 2019’ published in July 2020 by the European Securities and Markets Authority (ESMA), the EU’s securities markets’ regulator. National Competent Authorities (NCAs) ended up imposing 371 sanctions and measures across Europe, totalling €1,828,802 in fines.

The coronavirus pandemic has highlighted that some targeted amendments to the current MiFID II regime are required to improve access to financial instruments for investors and free up issuers’ resources as highlighted by the European Commission in its legislative proposal for a directive amending MiFID II. In addition, firms must also react and look into which tools might help them cope with the significant number of administrative tasks required and avoid regulatory scrutiny. In order to streamline processes, new technologies such as machine learning and robotic process automation can be implemented as part of the client lifecycle management platform, driving efficiencies and making compliance easier.

Lessons learned

In total, 317 sanctions were imposed in 2019, nearly three times the amount imposed in 2018 (117). Furthermore, fines in 2019 were 40% higher than the €1.3m levied by the regulators in 2018. Interestingly, in the 2018 report, the UK’s Financial Conduct Authority (FCA) issued one sanction, which was settled at £70,000. Compared with fines imposed prior to the implementation of MiFID II on March 28, 2019, the city watchdog fined Goldman Sachs £34.3m for breaching the bloc-wide rules for the period between November 2007 and March 2017, as the bank failed to ensure that it provided complete, accurate and timely information about nearly 214 million transactions highlighting the growing value of fines.

Under MiFID II, the comparison between the 2018 and 2019 ESMA reports show an overall increase in the number of member states where sanctions and measures were applied, the total number of sanctions and measures reported and the aggregated amount of administrative sanctions imposed. In order to avoid further fines, firms need to start taking more steps to comply with MiFID II regulations; the hefty fines are not only detrimental from a financial standpoint, but a reputational standpoint too.

Being prepared

In light of the pandemic, firms are adapting to a new way of working and the number of financial services operating remotely is growing at an exponential rate. It is crucial now more than ever for financial institutions to maintain and where required implement stricter reporting processes. ESMA, together with the NCAs, continues to monitor developments in financial markets as a result of the Covid-19 crisis and advises that they “are prepared to use its powers to ensure the orderly functioning of markets, financial stability and investor protection”. 

In May, ESMA updated its questions and answers on the implementation of investor protection topics under MiFID II, offering clarifications on MiFID inducements and the application of the MiFID definition of “acceptable minor non-monetary benefits”, among others. The purpose was to promote common supervisory approaches and practices in the application of MiFID II and MiFIR. The EU has adopted a Capital Markets Recovery Package as part of the commission’s overall coronavirus recovery strategy, and in particular to MiFID II amendments, to lessen administratively burdensome communication requirements. 

Brexit’s impact on MiFID II

The commission has advised that at the end of the Brexit transition period, MiFID II EU rules will no longer apply to the UK. Furthermore, ESMA has recently updated two statements on its approach to the application of key provisions of MiFID II, after the end of the Brexit transition period on December 31, 2020. As the Withdrawal Agreement came into force on February 01, 2020, and the UK entered a transition period that will end on December 31, 2020, these statements had to be revised to provide further guidance on the impact of Brexit on the application of MiFID II. 

In August, FCA published its newsletter on market conduct and transaction reporting issues, providing market participants with advice on the transition from MiFID II transaction reporting requirements to UK-specific requirements applicable from the end of the Brexit transition period.

The FCA stressed the necessity for firms to provide their MiFID II transaction reports by December 31, and that it is crucial it receives such reports to ensure market oversight and the integrity of financial markets. To this end, any firms that fail to submit their MiFID II transaction reports on time will be required to provide backdated, missing, incomplete or inaccurate transaction reports as soon as possible after the end of the transition period (i.e. early in January 2021).

Managing risk 

MiFID II was designed to provide more protection for investors and greater transparency, efficiency and resilience, standardising regulation and trading practices across the EU. Coming up to its third year of implementation, firms need to closely monitor guidance provided by regulators and review the accuracy of their reports on an ongoing basis.

To fulfil these obligations, financial institutions need to invest in technology to address and mitigate risk efficiently, as pointed out by many market regulators. They must now ensure that they are complying with all aspects of MiFID II, and adjust their business strategy, operations, technologies and client lifecycle management processes accordingly. Although there will be undoubtedly significant challenges faced when implementing changes, the reforms will also present new opportunities and allow financial institutions to focus their resources as needed and fulfil their business goals.

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