Despite a growing sense of pre-MIFID II/R angst in the lead up to the January 3 ‘go live’ date, the first two weeks of the new regulatory regime have proved to be relatively muted for the European bond markets. While the implementation of many of the provisions is far from seamless, for the most part it would appear to be business as usual. Trading activity generally reduces around year-end, but volumes are reported to have normalised going into the second week of the year, at least for cash bonds, even if derivatives activity remains slightly subdued. As widely expected, more trades are being executed electronically, although it is still too early to identify any discernible trends with respect to the predicted shift from OTC trading.
Yet some degree of confusion and teething pains are evident. As one ICMA member explained, implementing the new regulation is akin to everybody being told to learn a new language by themselves, using an incomplete dictionary. When everyone is put in the same room, they find that they all speak slightly different, and far from perfect, versions of the same language. That said, it would also seem that firms, along with national regulators, are co-operating closely to help each other comply with the new obligations.
This short briefing note attempts to highlight some of the key issues and challenges arising in the first two weeks of MiFID II/R, as commented on by members of ICMA’s MiFID II/R Working Group(MWG).
Despite pre- and post-trade transparency for non-equities being one of the flagship features of MiFID II/R, early reports are that this is proving to be patchy at best. Some APA (Approved Publication Arrangement) websites are not easily accessible, while others seem to be missing quotes and trades. A few commented that they are seeing potential discrepancies in how bonds are classified on some trading venues. Only a few APA websites are reported to be working as intended by the regulation, although this could in part be due to technology issues. For example, Finansinspektionen (the Swedish Financial Supervisory Authority) has suspended supervision of systematic internalisers (SIs) and the trade reporting deferral regime until April 23 to allow APAs time to adjust.
Obtaining LEIs (Legal Entity Identifiers) remains a challenge, despite the last minute temporary loosening of ESMA’s LEI ‘validation test’ requirements. [The original rule was that where there is a missing LEI, or the LEI issue date post-dates the trade date, the transaction report is rejected. Under ESMA’s new, temporary rule, for six months from 3 January 2018, firms will be allowed to trade with a client that does not have an LEI, provided the client gives the trading firm a mandate to acquire the LEI on the client’s behalf, and receives it quickly.] 1 However, ICMA is receiving reports regarding LEI implementation suggesting that some firms’ view is that they now had a six-month grace period in which to obtain counterparty or issuer LEIs. In fact, the LEI is required within a few days of the transaction (as confirmed by the UK FCA).
A number of respondents have flagged issues and inconsistencies with the ANNA ISIN database,2 in particular with respect to derivatives.3 Some report that the DSB database4 is, in some instances, producing ‘strange’ outcomes. Otherwise, the ESMA databases for listing MTFs, OTFs, and SIs5 remain incomplete and appear to be waiting on submissions from a number of national regulators. The absence of a definitive list of TOTV (‘traded on a trading venue’) instruments is also cited as a cause of confusion.
Research, in particular what constitutes a minor non-monetary benefit (MNMB), seems to be causing some consternation among both sell-side and buy-side respondents. The general approach seems to be that generic macro research is being provided and accepted for free, while credit research is treated more like equity research, and therefore chargeable. Where there appears to be some ambiguity is where to draw a distinction between chargeable research and MNMB ‘desk’ or ‘sales’ notes. Both sell- side and buy-side firms have their own legal guidance and rules on where to draw the line, however it seems as if this is not necessarily consistent, much to the frustration of some research providers.
Move to venue
Leading-up to the launch of MiFID II/R it was widely expected that the use of the ‘move to venue’ (MTV) protocol (often referred to as ‘processed trades’) would see greater adoption, allowing buy-side firms to negotiate trades with their dealers off-venue, before completing the transaction on-venue (thus combining the benefits of avoiding detrimental information leakage pre-trade with post-trade reporting and processing efficiencies). Early reports suggest that this is indeed happening and that from a trading workflow perspective it appears to function as smoothly in the MiFID II/R world as it did before.
It is probably too early to draw meaningful conclusions on the overall impacts of MIFID II/R for European fixed income markets, particularly in these early stages as firms (and regulators) continue to bed-down their technology, processes, and work-flows. Also, with respect to some elements of the regulation, MiFID II/R implementation appears to be more of a process, rather than an event, and so it is quite likely that more issues and challenges will continue to materialise in the coming weeks and months.
ICMA, through its MiFID II/R Working Group, and in close consultation with its broad and diverse membership, will continue to monitor the challenges and impacts of the regulation as these arise, and to provide an accessible and interactive forum for its members to share experiences, perspectives, and concerns well into 2018 and beyond.