European Parliament Adopts CSD Regulation and MiFID II

The European Parliament has adopted the regulation for securities settlement and central securities depositories (CSDs).

The Commission’s proposal for a Regulation on securities settlement and central securities depositories (CSDs) in the European Union was presented in March 2012.

The main objective of the CSD Regulation is to increase the safety and efficiency of securities settlement and settlement infrastructures (CSDs) in the EU by providing, among others, for the following: shorter settlement periods; deterrent settlement discipline measures (mandatory cash penalties and ‘buy-ins’ for settlement fails); strict prudential and conduct of business rules for CSDs; strict access rights to CSD services;

Increased prudential and supervisory requirements for CSDs and other institutions providing banking services ancillary to securities settlement.

Internal Market and Services Commissioner Michel Barnier says: “The new Regulation will ensure that settlement is carried out in a safer and more efficient manner in Europe.”

Parliament also adopted updated rules for markets in financial instruments (MiFID II). The European Commission first tabled the updated rules in October 2011 with the aim of making financial markets more efficient, resilient and transparent, and to strengthen the protection of investors. A political agreement between the European Parliament and the Council endorsing the Commission proposal was reached on January 14 2014.

Barnier says: “The new rules will improve the way markets function in order to serve the real economy. They will establish a safer, more transparent and more responsible financial system and restore investor confidence in the wake of the financial crisis.”

MiFID II introduces a market structure framework, which closes loopholes and ensures that trading, wherever appropriate, takes place on regulated platforms. To this end, it subjects shares and non-equity instruments to a trading obligation. It further ensures that investment firms operating an internal matching system which executes client orders in shares, depositary receipts, exchange-traded funds, certificates and other similar financial instruments on a multilateral basis have to be authorized as a Multilateral Trading Facility (MTF). It also introduces a new multilateral trading venue, the Organized Trading Facility (OTF), for non-equity instruments to trade on organized multilateral trading platforms.

MiFID II introduces a trading obligation for shares as well as a trading obligation for derivatives, which are eligible for clearing under the European Markets Infrastructure Regulation (EMIR) and are sufficiently liquid. This will move trading in these instruments onto multilateral and well-regulated platforms in accordance with the G20 commitments.

MiFID II increases equity market transparency and for the first time establishes a principle of transparency for non-equity instruments such as bonds and derivatives. For equities a double volume cap mechanism limits the use of reference price waivers and negotiated price waivers (4% per venue cap and 8% global cap) together with a requirement for price improvement at the mid-point for the former. Large-in-scale waivers and order management waivers remain the same as under MiFID I. MiFID II also broadens the pre- and post-trade transparency regime to include non-equity instruments, although in view of the specificities of non-equity instruments, pretrade transparency waivers are available for large orders, request for quote and voice trading.

Rules have also been established to enhance the effective consolidation and disclosure of trading data through the obligation for trading venues to make pre- and post-trade data available on a reasonable commercial basis and through the establishment of a consolidated tape mechanism for post-trade data.

Stronger investor protection is achieved by introducing better organizational requirements, such as client asset protection or product governance, which also strengthen the role of management bodies.

While MiFID II has little implications for custodians, in the longer term, future EU legislation could require them to separate the pricing of packaged services, adding to the implementation workload, says HSBC Securities Services’ EU regulatory affairs specialist, Henry Raschen. Raschen explains that, following the MiFID trilogue in January, safekeeping will remain an ancillary service and not become a core investment service as was once expected by many in the industry. He notes, however, that EU Commission staff had indicated that they still intend separately to reclassify safekeeping as a core investment service in due course. “Any delay in reclassifying is likely to be temporary—safekeeping may well still become a core investment service in the medium term—but the delay does just slightly reduce the current implementation workload for custodians,” says Raschen.

He adds that if safekeeping were to move to being a core activity, the structure of the service could change. “We don’t yet have the final text, but Article 24.7 of MiFID II—as now agreed—requires investment firms in some cases to unbundle packaged services and price them separately,” says Raschen. “This would reinforce a trend to unbundling that there has been in some quarters over the past few years.”

Following the vote in plenary on April 15th, the adoption of the CSD Regulation and MiFID II must be formally adopted by the European Council. The publication of the new CSD rules in the Official Journal of the European Union (OJEU) is foreseen for the third quarter of 2014 while the publication of the new MiFID II rules in OJEU is foreseen for the second quarter of 2014 with entry into application 30 months later.