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MIFID2 Brexit Divergence – who’s leaving who?
Although it might be fair to say that the UK financial services industry was not exactly pro-Brexit, there were those who saw it as an opportunity to improve regulation. There is undoubtedly some truth in this and Brexit may well present opportunities to recalibrate financial service regulation so that it fits better with UK business and consumers. The UK Chancellor, Rishi Sunak, was right when he said that EU regulation was often the result of a compromise between 28 member states and was, therefore, unlikely to the right approach for the UK in every respect1. Anyone who has had any involvement in Brussels law making will know the adage that only when nobody is happy has a good compromise been reached!
However, people should be careful what they wish for. In all the rhetoric about EU regulation, some people lose sight of two things: first, that the UK was influential in the development of the current raft of EU regulation; and second, many of the rules that are most disliked were actually driven by the UK (it could even be argued that the EU actually constrained the UK in how far some of these rules went). Under MIFID2, some of the rules that people seemed most excited about removing actually fall into the two second category above. Investor protection rules, such as research unbundling rules and strengthening best execution (including through the provision of data under the so called RTS 27 and RTS 28), are great examples of this. Those hoping for Singapore-on-Thames are (to borrow a famous, but unfair, expression) are likely to be very disappointed.
Instead, on these areas, it always seemed more likely that the EU would be the ones to roll back standards. This is precisely what we are seeing in the so called MIFID2 quick fix currently under negotiation in Brussels. Supposedly to address urgent deficiencies in MIFID2 connected to the current Covid-19 pandemic, the European Commission have proposed, among other things, to recalibrate the research unbundling rules and suspend some best execution reporting. What the Commission actually proposed was quite a targeted, well balanced proposal with clear rationale. On the research unbundling, there were proposals to recalibrate the rules to help mitigate some of the negative impacts on SME research that had been reported in some member states. On best execution, the EC proposed temporarily suspending the so called RTS27 reporting requirements, which require execution venues (in a very broad sense) to report standardised execution quality data on a quarterly basis. RTS27 has been particularly problematic for venues to produce and, as the Commission notes, there is little evidence of its use.
As stated, on the face of it, the Commission's MIFID2 quick fix proposal seems proportionate and targeted. It would be very difficult to find anyone in either regulatory or industry who think that these changes are anything other than technical and sensible. However, it seems that the pressure in Brussels is pushing for further and more radical deregulation. The Council (the member state governments) look to have agreed to go further on the recalibration of research unbundling, while the European Parliament appears to be advocating a more substantial weakening of the best execution rules. Some members of the European Parliament have proposed suspending the RTS28 requirements alongside RTS27. RTS28 is reporting by asset managers of how they route their client orders, something that is important to see if the best deals are being sought. This reporting, unlike RTS27, is only on an annual basis and is much more focussed, covering only the top five executions venues being used. Furthermore, the data was more grounded in longer standing best execution rules and is much more manageable and usable comparable than RTS27 data. It is interesting to see Parliamentarians advocating for this rolling back rather than opposing it - after all it would be expected that they would be champions of regulation aimed at providing investors, who are their voters, a better deal.
All of this provides a fascinating insight and reality check into how things might move after Brexit. The UK used a lot of negotiating capital on the original MIFID2 implementing a regime to protect investors and, without UK influence, Brussels looks like it might roll back such regulation for the EU. This might disappoint many UK businesses and also contradicts the rhetoric around Brexit that has been emerging from Brussels. We'll certainly be watching closely where this debate goes.
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