The UK’s Financial Conduct Authority (FCA) published its third consultation paper last week on the implementation of the revised Markets in Financial Instruments Directive (MIFIDII), a rulebook that will rewrite Europe’s trading rules top to bottom.
The third consultation paper focuses on a number of business of conduct issues, designed to make the financial markets more efficient, transparent, and responsible.
Investors operating in the United Kingdom should take note that the paper contains important clarifications on the continued use of Commission Sharing Agreements (CSAs), a widely discussed topic in the financial press in recent months.
Key proposals of the consultation paper include:
- Strengthening inducement and research rules to drive better competition in the investment research space;
- Ensuring research is only produced and consumed where it adds value to investment decisions;
- Implementing requirements of full disclosure and transparent pricing models.
What is the FCA’s position on CSAs?
Specifically, the FCA said that any research payments received by brokers alongside transaction fees must be immediately deducted, or “swept” into RPAs (Research Payment Accounts). The FCA further added that this should take place “daily or within the settlement period for the transaction, although detailed reconciliations may take place less frequently, eg weekly or monthly.”
Currently, any funds that a broker receives under an existing CSA must be paid out at the end of each month, once the funds have been reconciled with its client. In a word, this is the FCA’s way of saying the existing model is no longer good enough.
Andrew Bailey, chief executive at the FCA, said in a press release last week published by the FCA:
“Strengthening consumer protection is one of the key aims of MIFIDII and this aligns with, and advances, our own statutory objectives. The changes to rules we are proposing today reflect key themes that we have worked on in both retail and wholesale markets over recent years to promote competition and market integrity.”
Bailey goes on to add:
“As we said in our statement following the EU referendum results, firms must continue to bide by their obligations under UK law including those derived from EU law. They must continue with implementation plans for legislation that is still to come into effect, of which MIFIDII is one such example.”
How has the FCA’s position been received?
Some firms did not expect the FCA to crack down so suddenly or thoroughly on the continued use of CSAs.
David Pearson, head of post-trade strategy at technology firm Fidessa, recently said in a Financial News article: “We always thought the CSA model will have to evolve but the FCA has said that it will have to evolve much more drastically than people had previously hoped.”
The FCA’s position on CSAs, and on research unbundling more generally, has bolstered the United Kingdom’s already strong commitment to capital markets reform. Once MIFIDII goes into effect, there is a strong chance that it will fragment the research investment space within the United Kingdom, which could, in turn, affect the wider European research landscape.
The UK has long been regarded as a pioneer of regulatory reform in Europe, with roots stretching back to the 2001 Myners report. More recently, the UK cracked down on corporate access payments in 2013, a move criticized by many of its neighbours on the continent.
In France, the reaction to MIFIDII has been unfavourable. Its regulators, the Autorité des marchés financiers (AMF) are strong advocates of Commission Sharing Agreements and open critics of Pan-European research unbundling initiatives.
In a recent consultation paper, the AMF said it preferred a “literal transposition” of the MIFIDII rules, given that they were “the result of a compromise reached following highly involved discussions and negotiations.”
On the topic of CSAs, the AMF said specifically that the MIFIDII “rules appear not to be incompatible with commission-sharing agreements.” The French regulators went on to say that the operational processes for monitoring expenses will need to be updated to meet the new requirements on research payment accounts, but it is unclear how this will be achieved at this time.
Will all EU-member states be forced to comply with the new rules on CSAs?
As the MIFIDII rules falls under a directive (opposed to a regulation) not all countries within Europe will be forced to take the same position as the UK on the continued use of CSAs, as exemplified by the situation in France. There is room for national leeway on the implementation of MIFIDII and its technicalities.
“Regardless of national regulatory interpretations, Smartkarma believes that competitive forces will see funds “comply” with whoever is most stringent. In other words, whatever is held out to be the “Gold Standard”. Competition for Assets under Management knows no national boundaries, given the part played by multi-national asset managers. Ultimately asset owners will demand “gold standard” investor protections whenever, and wherever, they choose to allocate their capital,” remarks Jon Foster, Co-Founder of Smartkarma.
The team at Smartkarma feel confident that research unbundling will rejuvenate the European investment research space, resulting in better quality research at fairer prices for buyers.
For more on the ways that MIFIDII will change the way that research is bought and consumed within Europe, read our blog post here.
