MIFID II
In parallel with MiFID, the new
Market Abuse Regulation (MAR) and Market Abuse Directive (MAD) will also come into force. These will apply to organisations regulated under MiFID II. MAR will extend the scope of market abuse to cover commodities derivatives. MAR will also ban attempted insider trading and attempted market manipulation. This will create the need for new
governance processes, procedures and systems within previously unregulated commodity firms and could have very significant implications on the way in which trading companies operate.
What Does MiFID II Mean in Practice? Compliance with MiFID II will impact
many areas of a commodity trading business and will involve changes to operating models, processes, systems and culture. The key changes are:
Clear procedures must be in place
to categorise clients and assess their suitability for each type of product
Transaction Reporting MiFID II will require regulated
companies to make public trade reports through a new Approved Publication Arrangement (APA). Transactions have to be reported as quickly as possible. Firms will need to maintain
detailed records of all transactions in financial instruments for a five year period. Trading companies will need to develop systems to ensure all transactions are accurately reported to the appropriate APA within the required timescales. This may also involve reviewing trade confirmation and reconciliation processes so that correct data is reported.
Position Reporting & Limits All organised venues for commodity
derivatives trading will have to apply position limits and publish a weekly aggregated positions report. This is hotly contested by the industry and vigorously pushed by the politicians as
62 December 2012
a means to remove upward pressure on commodities prices. Limits on commodities trading positions will be enforced and
regulators will have the power to prevent a firm from taking excessive positions if they feel that doing so is damaging to the market. Position limits will impose a fixed limit on:
– The number of derivative positions a market participant can take.
– A specified contract type (or its underlying). – The specified period of time over which the position is held.
Sanctions will allow regulators to punish individual traders
who negligently or deliberately cause a market participant to breach position limits. Trading companies will need to review their limits monitoring systems and procedures to ensure they do not fall foul of the positions limits requirement. Major producers and consumers that acquire large exchange
positions through their day-to-day hedging activities will need to demonstrate they are genuinely hedging and not speculating and may need to look at improved systems to prove their derivative positions are genuinely hedges.
Client Categorisation & KYC Requirements MiFID I requires regulated firms to categorise clients as either
“eligible counterparties”, professional or retail clients. These will apply to all organisations regulated under MiFID II. Clear procedures must be in place to categorise clients and assess their suitability for each type of product. MiFID II may also introduce much more stringent “know your client” (KYC) requirements in line with those used in the investment banking sector. This will be a significant change, and commodities trading and companies will need to look at policies, procedures and systems in order to ensure and demonstrate they are compliant.
Algorithmic Trading MiFID II will also introduce regulation to control high frequency
trading. Firms will have to provide regulators with a description of the nature of their algorithmic trading strategies once a year. The regulation also require the algorithmic strategy to be
operated continuously during trading hours. This could force firms to trade regardless of the prevailing market conditions, which could potentially entail enormous losses.
What Should I be Doing Now? If you are worried that your firm may be caught in the MiFID
II net, then the very first thing you should consider is a high level impact analysis to understand which parts of your business will be affected. If this shows that you will be subject to MiFID II, then you should initiate a programme of activities including:
• Detailed regulatory pipeline analysis: assess which of the upcoming regulations and directives will affect you.
• Interpretation of text: develop a consistent internal “house” view of the key regulations, key term definitions and their
impact on you.
• Lobbying and industry engagement: initiate a proactive dialogue with the relevant regulatory authorities and trade
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