12 October 2016

MiFID II - changes to transaction reporting

This article was written by David Calligan (partner) and Ramya Juwadi (managing associate)

The requirements to report transactions under MiFID II will become both more wide-ranging and prescriptive in comparison with MiFID. It is also worth noting that the relevant requirements are present in MiFIR, which is directly applicable in all the Member States of the EU.

Which instruments are caught?

Transaction reporting under MiFID I applies to financial instruments admitted to trading on a regulated market and OTC derivatives linked to such financial instruments. Transaction reporting under MiFID II will apply to the following:

  • financial instruments which are admitted to trading or traded on a trading venue (regulated market, MTF or OTF) or for which a request for admission to trading has been made; and
  • financial instruments where the underlying is a financial instrument (or an index or basket of financial instruments) traded on a trading venue.
It is worth noting that the definition of “financial instrument” will be extended to include emission allowances, physically settled derivatives relating to emission allowances etc. (see our previous alert on changes to scope). The transactions do not need to be carried out on the trading venue for the obligations to apply to the financial instruments in scope.

When do the requirements bite?

Investment firms which “execute transactions” (the term now covers more than just executing. as described below) in financial instruments must submit the complete report of the transaction to the regulator by the end of the next working day.

According to near final Level 2 measures, executing a transaction means any of the following activities that result in a transaction:

  • reception and transmission of orders (see below for an exemption for transmitting firms in some circumstances);
  • execution of orders on behalf of clients;
  • dealing;
  • making an investment decision in connection with discretionary mandate given by a client; or 
  • transfer of financial instruments to or from accounts.

Transmitting an order is not regarded as “executing” only in the following circumstances:

  • the order was received from the transmitting firm’s client or results from the transmitting firm's decision to acquire/dispose of a financial instrument in accordance with a discretionary mandate;
  • the transmitting firm has transmitted all required data to another investment firm; and
  • the receiving firm is subject to the transaction reporting obligations under MiFIR and agrees to make the report of the transaction resulting from the order or to transmit the order to a further investment firm.

The draft Level 2 measures also have detail on the meaning of “transaction” (an acquisition or a disposal) which for these purposes includes:

  • a sale or purchase of a financial instrument;
  • entering into or closing out a derivative contract;
  • an increase or decrease in the notional amount of a derivative contract; or
  • a simultaneous acquisition and disposal of a financial instrument where there is no change in ownership of the financial instrument but where post-trade publication is required.
The following transactions are exempt:
  • securities financing transactions;
  • contracts arising exclusively for clearing or settlement;
  • a settlement of mutual obligations between parties where the net obligation is carried forward;
  • an acquisition or disposal that is solely the result of custodial activity;
  • a post-trade assignment or novation of a derivative contract where a party to the contract is replaced by a third party;
  • a portfolio compression;
  • the creation or redemption of units of a collective investment undertaking by its administrator;
  • the exercise of a right embedded in a financial instrument or the conversion of a convertible bond;
  • the creation, expiration or redemption of a financial instrument or an increase/decrease in the notional amount of a derivative contract as a result of pre-determined contractual terms or as a result of mandatory events (except public offerings and placings);
  • a change in the composition of an index or basket that occurs  after the execution of a transaction;
  • an acquisition under a dividend reinvestment plan;
  • certain acquisitions or disposals under employee share incentive plans, arising from the administration an unclaimed asset trust, or residual fractional share entitlements after corporate events; and
  • an exchange or tender offer on a bond or other securitised debt where the terms of the offer are pre-determined with no ability given to the investor to vary the terms.

What should the report contain?

Broadly speaking, the report must include the following information:

  • names and numbers of the financial instruments bought or sold;
  • dates and times of execution;
  • transaction prices;
  • designations to identify:
    1. the client;
    2. the investment firm;
    3. the individuals responsible for execution and any computer algorithms responsible for the investment decision and the execution of the transaction at the investment firm;
    4. any applicable waiver under which the trade has taken place;
    5. short sale (as defined under the Short Selling Regulation) in respect of any physical sales of EU listed shares and EU sovereign debt; and
  • for commodity derivatives, an indication of whether the transaction reduces risks in any objectively measurable way.

The required data fields in the report (increased substantially in number from 24 to 65) are set out in near final Level 2 measures, which can be found here.

Who is subject to the requirements?

The obligations apply to EU investment firms and their branches (even if the branch is outside the EU) that execute transactions in financial instruments.  Investment firms that transmit orders (as explained above), and do not execute them are required to transmit the required data relating to such orders to the receiving investment firm.

A branch of a third country firm in the EU that executes transactions is required to submit transaction reports to the regulator which authorised the branch. 

An operator of a trading venue will be required to report transactions in financial instruments traded on its platform that are executed through its systems by firms that are not subject to MiFID II or MiFIR.

Separate to the reporting obligation, investment firms are required to keep details of records of all orders and transactions in financial instruments for 5 years. Where transactions are carried out on behalf of a client the records must include details of the identity of the client as well.

Operators of trading venues are required to keep records of data relating to all orders in financial instruments which are advertised through their systems.  Further they are obliged to provide identifying reference data for the relevant financial instruments and details on reference data are set out in near final Level 2 measures, found here.

How should the reports be made?

The reports may be made by the investment firm itself, through an approved reporting mechanism (ARM) acting on its behalf or by the trading venue through whose system the transaction was completed.

Implications of Brexit

The FCA has taken a robust approach to the requirements relating to transaction reporting. When the UK leaves the EU, the current plan is for MiFIR (and other European legislation) to continue to apply until further consideration. It is likely that even at such later date the FCA will either adopt its provisions, or substantially similar rules, on transaction reporting to aid the detection of market abuse and to maintain a regime that would be regarded as equivalent by the European Commission to enable UK firms to take advantage of the third country provisions in MiFID II (see our earlier alert on third country access under MiFID II).

The FCA has handed out substantial fines (in the millions of pounds) for failures to report and for incorrect transaction reporting in the last few years.  It has indicated that approach is not likely to change.

Earlier this week, ESMA published its Final Report and a set of Guidelines on transaction reporting with many examples of how reports must be made under the new regime.

Please do get in touch with a member of the Financial Regulation team to discuss how we can assist you with MiFID II implementation.

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