Tackling the challenges and implications of MiFID II

By Andrew Watson | 3 June 2016

The winding road to the second Markets in Financial Instruments Directive (MiFID II) has become even longer following the European Parliament’s decision to push back the start date to January 2018.

MiFID II governs everything from how the markets and market participants should operate right down to how investors should be informed on costs and charges. As one of the most complex and extensive regulatory changes to come into play in years, companies need to make use of this extra time and start ramping up their technology for compliance.

While many in the financial services industry are celebrating the delay of the regulation, firms still need to face the challenge of managing the time and cost burden of complying with these new rules. For example, a vast amount of effort will be required to run detailed risk analysis and map out the changes to processes and procedures made necessary by MiFID II. It is therefore crucial that firms utilise these extra months wisely, ensuring that a comprehensive compliance strategy is in place and that, when the time is right, the directive can be tackled seamlessly.

Clarity, guidance and concerns

The biggest problem of MiFID II is that the law itself lacks fundamental details and guidelines for wealth managers to follow and implement the necessary measures for operation. With the official guidelines not expected until 2017, firms are often left second-guessing how this new regulatory change will impact their business, and how they should approach the preparation required to achieve compliance.

As followers of the European Commission’s recent approval of the final delegated act, we can see that bystanders easily assume that the light at the end of the MiFID II tunnel is now in sight for the wealth management industry, but they could not be more wrong. 

The final delegated act, which summarises the transparency rules and data requirements for trading venues, will clarify some of the core definitions and requirements under the extensive regulatory package. This will help wealth managers in particular, but it still won’t ease their concerns surrounding MiFID II’s requirements on the increased amount of data that firms need to report to newly-created entities. This is where the help of IT solutions comes in.

Transaction reporting

Transaction reporting will be a key area of focus of MiFID II, including requirements to demonstrate and provide evidence on how trades are being processed in order to prevent market abuse. Although this was required in the original MiFID, the scope has been increased significantly.

We know from the European Securities and Markets Authority (ESMA) technical standards published in late 2015 that firms will be expected to report three times as much data for every transaction than is currently required, including details of the individuals involved in the firms as well as details of the underlying investor.

Whilst the need to report this information may be delayed until 2018, firms will need to have much of this information on file well in advance; otherwise they may be left chasing their tails at the last minute. Firms will also need to bear in mind the new Legal Entity Identifier (LEI) requirements under MiFID II. A LEI is a unique global legal entity identifier that will allow authorities to trace the source of every trade made by “non-natural persons” such as companies or trusts. Worst case scenario, firms could find themselves unable to trade because they do not have a LEI for a trust or have failed to gather the relevant details, such as an investor's passport number.

For most, this will sound all too familiar. Wealth managers will have previously requested background information from their clients in order to comply with legislation such as the Foreign Account Tax Compliance Act (FATCA) and the Common Reporting Standard (CRS). Not only is gathering this extra information a massive drain on resources, having to repeatedly request information from their clients increases the risk of firms damaging these long-established relationships.

The importance of engagement

Despite the 12 month delay, it is essential that firms take a proactive approach and use the time wisely to ensure that they have a robust infrastructure in place to manage the increased need to process large quantities of data. Engaging with an IT provider should therefore be the first point of call, as changes will be required to transaction reporting systems in order to comply.

Engagement is key. Firms need to discuss the regulations with their clients to pre-empt any issues, and share best practice with other industry experts and regulatory bodies. JHC has been working closely with the Wealth Management Association (WMA) and its members to raise awareness of the new regulatory requirements, gain further insight into the measures which need to be taken by firms to ensure compliance, and ultimately achieve full consensus on best practice across the industry.

Similarly, we have been in discussions with ‘Approved Reporting Mechanisms’ such as the London Stock Exchange (LSE), who will be responsible for ensuring data is submitted and transaction reporting meets the standards of the authorities. 

All in all, firms need to understand the intention of the regulation and avoid using ‘lack of clarity’ as an excuse for non-compliance. Firms must be able to demonstrate to the regulator with conviction and integrity that they have taken the necessary steps to improve transparency and investor protection. The regulator is unlikely to be sympathetic with firms who have carried out little preparation with the intention of using lack of clarity as a ‘get out of jail free’ card.

Wealth management firms should also focus on analysing their business processes and identify areas for change. By doing so, they can identify whether system changes will be needed in order to carry out tasks more efficiently – or if more information will be required in order to meet these tightening regulations. If this is the case, firms will need to liaise with their systems provider so that changes can be implemented sooner rather than later. It is also critical that firms demonstrate that they are treating their customers fairly and, in particular, that their charges are transparent.

To avoid facing hefty fines from the regulator, firms must embrace technology that will alleviate the compliance burden and provide a streamlined approach to data collection, in addition to an overview of all account information in one place. Firms using multiple systems to manage their accounts may struggle to pull together the high level of data demanded by the regulator. To prepare, it would therefore be wise for firms to engage with their IT solutions providers as early as possible to find a way to integrate these systems seamlessly.

MiFID II should be seen as an opportunity to demonstrate proactivity, and highlight that the firm is leading the way in best practice. If wealth management firms take the steps in being ‘MiFID II ready’ now, they are essentially demonstrating to investors that they are ahead of the market in understanding the need to better serve their clients, which ultimately is one of the main intentions behind the implementation of this new regulation. Empowered by technology, wealth firms can achieve full MiFID II compliance, demonstrate a proactive approach to the regulator and to their clients and add value to their business.

By Andrew Watson, FIGARO Product Manager at JHC.

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