MiFID3 View - October 2021

We are pleased to send you our second edition of our MiFID3 View which contains highlights of the most recent developments in relation to EU and UK MiFID2 reforms that may be of interest to you. We have received such positive feedback on our first MiFID3 View and we hope these publications continue to help you keep on top of all MiFID legislative developments.

What's been happening recently? As expected, the summer months in the UK and Europe means legislative developments slowed down. However, there are a few news items to highlight, in particular on the EU front.

So, let's start with the EU.

ESG changes to MiFID2

On the 2 August, the hotly awaited delegated acts integrating sustainability factors into MiFID2 Level 2 measures were published in the Official Journal. Whilst not strictly part of the EU's wider review of MiFID2 they are part of the European Commission's initiative to develop an EU framework on sustainable development.

Suitability AssessmentsDelegated Regulation integrating sustainability factors, risks and preferences into organisational requirements and operating conditions for investment firms, including in respect to suitability assessments. Our insights article provides further details including a redline of the changes being made to the MiFID Organisational Regulation. These changes apply to investment firms with requirements in relation to suitability assessments applying to those which provide investment advice and/or portfolio management (including AIFMs with a top-up permission). The revised legislation requires advisors and portfolio managers to carry out mandatory assessments of sustainability preferences of their clients and to take such factors into account in the selection process of the financial instruments that they recommend. It is worth noting that it's not just EU firms that will be impacted by these changes. For example, if a non-EU asset manager appoints an EU sub-manager, that sub-manager will need to comply with these new requirements. If a non-EU asset manager is appointed as a sub-manager by an EU firm then they will be required to communicate sustainability information to that EU firm in order for the EU firm to comply with its obligations. The new measures will apply from 2 August 2022 and therefore firms caught by these requirements should already be considering the changes they will need to make to internal processes, client disclosures and terms of business with counterparties.

Product Governance Delegated Directive integrating sustainability factors and obligations into the product governance regime. Our insights article provides further details including a redline of the changes being made to the MiFID Level 2 Directive. The changes impact investment firms manufacturing and distributing financial instruments and require such firms to consider sustainability factors in the product approval process and in other product governance and oversight arrangements for each financial instrument intended to be distributed. Like the current MiFID2 product governance measures these changes will also likely impact non-EU manufacturers and/or distributors up and down the supply chain as there will be a need to incorporate the requirements into the flows of information between parties. The measures will apply from 22 November 2022 and firms caught by these requirements should be considering reviewing their product design and distribution channels and arrangements to determine changes required for compliance.

It is worth bearing in mind that the UK Government has not yet indicated whether it will onshore any of these changes and therefore currently they only directly apply to EU-27 firms.

We have been advising a number of clients on the impact of the above changes so if you need assistance, then please reach out to our MiFID3 Team as we would be happy to help.

Retail Investment Strategy

As you know as part of its Capital Markets Union Action Plan, the European Commission wants to encourage retail investor participation in EU capital markets and is working on several initiatives with the aim of publishing its retail investment strategy in the first half of 2022. As part of this process the European Commission published its consultation paper in May gathering stakeholder input to guide its future policy. The consultation focussed on the legal framework for retail investments which in a large part includes MiFID2 and PRIIPs. The consultation closed in August. We worked closely with a number of industry bodies that responded. A common theme across many responses was the need to remove the costly and burdensome policies introduced by MiFID2 to retail clients. Many noted that the current regime has not only restricted access but has also produced information overload rather than real protection. It is likely this feedback will influence the European Commission's review of MiFID2 and will put further pressure on the Commission to streamline, align and simplify its investor protection legislation. These concerns were echoed in ESMA's recent call to evidence published 1 October seeking stakeholder feedback on retail investor protection which ESMA was mandated to do by the European Commission to further feed into its retail investments strategy. ESMA is seeking input to identify any significant overlaps, gaps, redundancies and inconsistencies across investor protection legislation in relation to point of sale disclosures that might have a detrimental effect on investors. ESMA is also requesting feedback to identify risks and opportunities with respect to retail investing stemming from both the increasing availability of digital tools and the increasing levels of direct investor participation via online trading platforms and robo advisors. The call for evidence is open until 2 January 2022 and ESMA will consider the feedback received when drafting its advice to the European Commission which it will deliver by 30 April 2022.

Algo-Trading

Last week, ESMA published its Review Report on Algorithmic Trading setting out its recommendations to the European Commission following feedback it received from its consultation in December 2019. ESMA's report provides a comprehensive review of the regime. The topics covered include a review of the concepts of 'algorithmic trading' and 'direct electronic access' ('DEA'), the authorisation regime for EU and non-EU algorithmic trading firms, the organisational requirements for firms and trading venues, and provisions which indirectly relate to algorithmic trading activities (i.e. tick sizes and market maker).  In the report, ESMA proposes to extend certain algorithmic trading obligations to trading on EU systematic internalisers and not just EU trading venues. Given industry responses to the consultation, we expect this will not be well received. However, ESMA also identified a number of areas which it does not propose to change, which will no doubt be welcome. For example, contrary to its proposals in its consultation, ESMA confirmed that it would not extend the algorithmic trading framework to DEA clients that are not authorised as investment firms. On the own account exemption, ESMA proposes to remove the requirement to be authorised simply by having DEA but retains the trigger for a license if that firm uses high-frequency trading (albeit with a specific third country equivalence regime). In addition, ESMA proposes to simplify and reduce the scope of the market-making requirements on EU trading venues generally and in specific circumstances such as government bonds which are handled by primary dealers. ESMA will submit this report to the European Commission who will take into consideration ESMA's recommendations as part of its overall MiFID2 reform package. Regarding the Level 2 provisions,  the proposed amendments identified in the report will be subject to specific consultations which will be published in due course. It is therefore likely that it will be few years before we see final legislation on many of these changes.

Best Execution

Towards the end of September, ESMA published a consultation paper on a review of the MiFID2 framework on best execution reports. In the consultation paper, ESMA proposes to amend: (i) the RTS 27 regime for trading venues by reducing the granularity and volume of data to be reported and moving to a set of seven indicators on key features of the venues' obtained execution quality and also to exclude market makers from the reporting regime; and (ii) the RTS 28 reporting regime by clarifying reporting requirements for firms that do not themselves execute client orders or decisions to deal, but instead transmit them to third parties for execution. The deadline for responses is 23 December 2021 and ESMA intends to send its final proposals to the European Commission in the first half of 2022.

As you know, following the adoption of the UK 'Quick Fix' trading venues are no longer required to publish RTS 27 reports as of 26 July 2021 and from 1 December 2021, firms will no longer be required to publish RTS 28 reports. In addition, the FCA in CP21/9 consulted on proposals to remove RTS 27 and 28 best execution reporting obligations altogether. This is significantly different from ESMA's approach in this recent consultation which proposes to maintain both reporting obligations (albeit with amendments to streamline and simplify). Based on this current position, it is likely we are going to see significant divergence between the UK and EU best execution reporting requirements when legislative changes are finalised.

Data Reporting Service Providers Suitability of Management Body

A quick note that on 24 August ESMA published its consultation paper with proposed RTS which builds on the existing ESMA Guidelines regarding the management body of market operators and DRSPs. The RTS set out detailed obligations for DRSPs to guarantee the suitability, honesty, good repute and integrity of the members of their management body. The Consultation closed on the 24 September, following which ESMA will finalise the draft RTS and will send them to the European Commission for endorsement.

Let's quickly turn to the UK

Whilst there haven't been many recent MiFID developments in the UK, a few points to highlight.

Consultation closed for Wholesale Markets Review

We highlighted in our last MiFID3 View the UK Treasury's public consultation on its Wholesale Markets Review. Whilst the consultation was broad-ranging and requested feedback on a number of technical areas the Government also scanned for comments on wider general policy issues as it looks to adapt the UK market post-Brexit. The Government hasn't given a firm timeline for change following the consultation however it is likely feedback will be considered alongside its wider Future Regulatory Framework Review. What is clear from these reviews is that the focus for the Government is on proportionate regulation and removing rules which are excessive and curb growth and innovation. Also, given that the EU is only due to publish its full MiFID2 review package at the end of 2021, it is likely that the UK MiFID changes will proceed quicker and will no doubt diverge ahead of any EU implementation. The latest intel, although this remains uncertain, is that HM Treasury intends to stagger the developments over a period of time rather than introduce them altogether at one time. One area which does have a deadline is the temporary transitional powers granted to the FCA and PRA to lessen the impact of Brexit. These are due to expire on 31 March 2022. For example, in relation to the derivatives trading obligation HM Treasury has intimated that it may make FCA's temporary powers to suspend or modify the UK obligations more permanent.

Onshoring tidy up

Finally, on the 23 September, there was published on the legislation.gov.uk website The Markets in Financial Instruments, Benchmarks and Financial Promotions (Amendment) (EU Exit) Regulations 2021 together with an explanatory memorandum. The Regulations address deficiencies in the onshored version of MiFIR in relation to the non-discriminatory access regime for exchange-traded derivatives, as since the UK left the EU, the provision will only operate domestically which effectively makes it redundant. The Regulations come into force on 18 October 2021.

If you would like to know more about any of the topics covered in this update then please get in touch with our dedicated MiFID3 Team. We are closely following these developments and would be happy to discuss how we can help and the work we are doing in this sphere. As always, we also welcome any feedback you may have.

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Simmons MiFID resources

• Article - Top 10 things firms should know about the FCA CP21/9

• Article - ESG - changes to MiFID, AIFMD and UCITS Level 2 measures published