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The lights come on for MiFID – implementation process commences Back  
The incoming regime for the Markets in Financial Instruments Directive (MiFID) has become noticeably more defined in recent weeks with the publication of the formal draft implementing measures on February 6th, writes Brian Binchy.
The draft implementing measures have been structured into one Regulation and one Directive. The Commission has described the Directive as ‘principles-based though tightly worded’. Wherever legally possible, the Commission tried to put the content into the Regulation to ensure uniform solutions and to avoid gold-plating. However, pressure from certain Member States has resulted in the bulk of the new rules being contained in the Directive, meaning that the rules will have to be introduced by Member States through national laws. Indications to date are that the Department of Finance will use a combination of statutory instruments and a Bill. However, this does not mean that Member States will have discretion in transposition, Member States will only be allowed make the necessary adaptations for the rules to fit into their national legal systems.

Draft implementing Directive
The draft implementing Directive follows a principle-based approach, establishing clear standards and objectives that investment firms need to attain rather than prescribing specific and detailed rules. Some of the areas which it covers include:

• Organisational requirements. There are a number of provisions aimed at the operation and management of the compliance, risk management and internal audit functions. A well-documented organisational structure that clearly assigns responsibilities, incorporates proper internal control mechanisms and ensures a good flow of information is required. However, a number of the requirements depend on the size and complexity of the business and may be waived where their application would be disproportionate.

• Outsourcing. Due skill and care must be taken when outsourcing critical or important operational functions. Furthermore, outsourcing of investment services will be considered capable of constituting a material change of the conditions for authorisation and may therefore need to be notified to the competent authority.

• Conflicts of interest. The proposal regulates the identification, management and disclosure of conflicts of interest. Supplementary rules governing the production and dissemination of investment research are also proposed.

• Suitability and appropriateness tests. There are three regimes governing the requirements which firms must fulfil in the area of information gathering and evaluation: a ‘suitability test’ for those services that entail an element of recommendation; an ‘appropriateness test’ to assess whether the client understands the risks; and ‘execution only’ services which may be offered, provided certain conditions are satisfied.

• Best execution of client orders. According to the underlying Directive, firms must take all reasonable steps to obtain the best possible result for their client, the level 2 text further explains how firms should take into account the variety of factors that make up the cycle of best execution.

• Client classification. The proposed text provides greater clarity on the separation of eligible counterparties which constitute the most sophisticated class of investor, professional clients and finally retail clients which form a residual category and are afforded the greatest level of protection.

Draft implementing regulation
Regulation is the Commission’s preferred vehicle for implementing MiFID as direct application will eliminate any delay in transposition while reducing the possibility of gold-plating. Compared to the draft Directive, the draft Regulation is technical and detailed. The Regulation addresses the following areas:

• Transaction reporting. The Implementing Regulation provides for a single data set collected from all investment firms with a minimum of variation between Member States, minimising divergences in reporting obligations for firms.

• Pre-trade and post-trade transparency. The pre-trade transparency obligations recognise the three most common types of trade matching systems (continuous auction order book, quote driven and periodic auction) and specify the conditions with which they have to comply to be considered as pre-trade transparent. The content of the post-trade information is also specified and provides that this information should be disclosed as close to real time as possible.

• Systematic internalisation and liquid shares. The criteria for determining whether an investment firm is a systematic internaliser is set out in the text and will be studied closely by firms to establish whether they are subject to significant obligations. To address the concerns of Member States with smaller markets such as Ireland, the Commission has given Member States the power to specify a minimum number of shares – no greater than five – that are judged to have a liquid market for that Member State.

The recent questionnaire circulated by the Financial Regulator will serve to further focus the attention of organisations on the impact of MiFID. While organisations will already be contemplating the investment in technology, policy changes and budget implications, the recent seminar also highlighted the opportunities for the industry. As Commissioner McCreevy said, the level 2 measures ‘will also increase cross-border competition to the benefit of investors and issuers alike’.
It is imperative that the new rules are analysed and commented upon by the industry before the implementing measures are adopted. Only by being actively engaged, can we ensure that the benefits clearly outweigh the costs.

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