Last week, Duncan Phillips, Ipreo’s Global Head of Capital Markets, discussed in broad terms how MiFID II will affect the primary market when it takes effect in January 2018.
In part two he reviews the regulation in more detail and considers some of the potential solutions.
MiFID II: A Detailed Look
In Part 1 of this two-part series, we talked about Ipreo’s overall approach to helping our clients meet regulatory standards. We will now focus on specific legislation, the potential impact on primary market workflows and what some of the solutions could look like.
We have focused on three key themes: conflict of interest (including allocation rationales), suitability and trade reporting.
Article 16(3), 23(1) and 23(2) of the primary MiFID II text, Directive 2014/65, requires investment firms to prevent conflicts of interest. These broad provisions are addressed more precisely in Delegated Regulation 2017/565 which provides more specific guidance in an underwriting or placing context. Article 40(4) requires investment firms to “establish, implement and maintain an allocation policy”, Article 40(5) requires investment firms to “involve the issuer client in discussions about the placing process” and Article 43 requires investment banks to justify and record “the final allocation made to each investment client”.
Note that “investment firm” is defined in the primary MiFID text as any legal person who provides investment services or performs activities defined in Annex I, Section A. This includes “execution of orders on behalf of clients” and “underwriting of financial instruments and/or placing of financial instruments on a firm commitment basis”. As a result, the underwriting banks fall within the scope of the above provisions.
An example of the body of regulation that goes beyond MiFID II, the UK FCA also has a Chapter dedicated to Conflict of Interest in their Handbook. SYSC 10.1.15 (1) and (2), which relates to an “offering of securities”, encourages firms to incorporate the following into their conflicts of interest policy: “how recommendations on allocation…will be prepared”, “agreeing allocation…objectives with the corporate finance client” and “inviting the corporate finance client to participate actively in the allocation process”.
Our one-on-one sessions with clients were particularly useful in helping build a picture of how best to adhere to the regulations above. There were two main aspects to that dialogue: how to efficiently populate the rationale data and how to share to share the rationales between the banks. In response to that we’re now building various features, including a popular idea that builds on our existing IssueNet tool, currently used by over 100 banks to share allocation data.
Further, our Investor Access tool, which allows investors to submit orders directly into the orderbook, while keeping sales copied, helps the banks be better equipped to adhere to Article 43’s requirement for investment firms to keep records of the “content and timing of instructions received from clients”.
Another core theme of MIFIDII is product suitability, particularly for retail clients. Article 25 of MiFID II requires investment firms to obtain information relating to a client’s knowledge, experience, financial situation and risk tolerance to ensure the investment services and financial instruments are suitable for the investor. Article 54 of Delegated Regulation 2017/565 provides further details on this.
Firms may have different views on how to adhere to this regulation, but we think an ability to efficiently track investor certifications could be part of the solution. By combining some of our existing standalone products, our clients would have the ability to match their own policies to their distribution lists, ensuring only suitable securities are actually marketed to investors.
Finally, trade reporting is a huge area of focus for the industry. Article 26 of MIFIR (MiFID II’s accompanying legal text) outlines the “obligation to report transactions” to the competent authorities. Delegated Regulation 2017/590 (also called “RTS 22” following the ESMA drafting process) contains more specific provisions, such as Article 7 (Details of the identity of the client and identifier and details for the decision maker’), 8 (Identification of person or computer algorithm responsible for the investment decision) and 11 (Designation to identify a short sale).
To address these requirements, our clients can create reports that feed from our existing product suite. These range from a simple distribution summary to customized data feeds comprising every step of a transaction from announcement, marketing, order taking, distribution and ticketing.
The gradual electronification of capital market workflows is a very natural evolution given changes in other areas of finance, but it requires a level of specificity around regulations and protocols that hasn’t been seen before. At Ipreo we’re addressing this need and ensuring our products put accuracy and auditability first for our capital markets clients.
This is part two of a two-part blog post on Ipreo’s approach to primary markets regulation. Read part one here.