MiFID II: More Harm than Good?

The Markets in Financial Instruments Directive (MiFID II ) has changed the European financial regulatory landscape in 2018. It was one of the most fundamental and far-reaching regulatory regimes that impacted everyone with business relations with the European Union.

However, the industry did not accept the regulations with open arms. Many have pointed out some of the critical aspects of such rules: one being the regime’s ability to kill competition in the European financial market.

A survey on pricing trends and expectations for research spending by Substantive Research bolstered these critical claims. It found that 52 percent of the research budgets went to the top ten providers in 2019, while it was 51.6 percent in 2020 and 53.1 percent in 2021, showing an increasing concentration.

“MiFID II doomsayers predicted that the regulations would make the market much less competitive, and specialist, differentiated research would become less available in times of heightened volatility,” said Substantive Research’s CEO, Mike Carrodus.

“What we are seeing now with volatile markets is a stress test proving them right, where we do not have sufficient energy analysts… and asset managers are defaulting to their core relationships, the handful of bulge-bracket firms which dominate market share.”

What Is MiFID II?

MiFID II regulations were an update to the MiFID regime and promised to standardize the European financial market operations. It extended the scope of the EU regulations to equities, commodities, debt instruments, futures and options, exchange-traded funds, and even currencies.

The regulations mandated strict reporting requirements. It even reduced the use of dark pools and brought transparency to the over-the-counter (OTC) market.

“MiFID II, paradoxically, helped create… a ‘moderate market’, by basically ‘fine tuning’ the already existing MiFID I regulatory framework,” Remonda Kirketerp-Møller, Muinmos’ Founder and CEO, explained to Finance Magnates.

“It did a bit of everything, basically [it] extended the market transparency (improved transaction reports and enhanced disclosure for clients, for example), improved investor protection (periodic suitability assessments, no inducements from third parties, to name some), enhanced accountability for senior management, put more execution venues (OTF) and products (like emission allowances) into the scope, etc.”

In addition, she said that the regime helped create a more robust European financial market, harmonized the approach to third-country firms, allowed for equivalency decisions, and helped in pushing non-EU countries towards adopting similar MiFID-like regimes.

Kirketerp-Møller’s views, however, differ in the aspect related to industry competition. She agrees that MiFID II limits the opportunity areas for companies.

“However, a minimized opportunity space doesn’t mean less competition; it means more fierce competition,” she said. “And, of course, what almost killed Capital Markets in 2007-2008 was wild unregulated competition, which led to a complete loss of investor trust. Regulation, in this respect, only helps keep the markets running.”

The UK Move

The question of competition also gained steam when the United Kingdom’s government proposed new financial regulations. The primary goal of the pending bill is to replace EU regulations and boost competition in the market.

“It can be both good and bad. It can help UK firms better operate in the UK, but they might still need to adhere to EU standards as well in their dealings in the EU, so instead of alleviating the regulatory burden, as the FCA wants, it might actually worsen it,” Kirketerp-Møller added.

“One thing the UK does need to be aware of, and I’m sure they are, is to be careful not to stray too much off the path of other regimes, especially when equivalency is on the table, so not to restrict UK firms’ access to other markets.”

Another negative aspect of MiFID II is that it has raised the cost of operation significantly higher.

“The MIFID regulations as they currently stand are highly expensive to implement and maintain, let alone running both a UK version and an EU version,” Quinn Perrott, the Co-CEO of TRAction Fintech, said.

“The revenue from UK-based business is very unlikely to cover the cost of running a completely separate operation due to the regulation being so different, therefore, requiring different settings, offerings, processes, and staff skillsets.”

Rise of Offshore Operations

The stringent restrictions of the MiFID II even pushed several companies towards offshore jurisdictions. This is particularly true for brokers that are offering counterparty trading services.

“Despite the best intentions of the regulators implementing the MiFID regime… at the grassroots level, what it has led to is pushing customers offshore to less regulated jurisdictions,” Perrott pointed out.

“This ultimately is not a positive outcome across the board as clients are generally not in a position to discern the difference between a reputable European broker with an offshore arm for higher leverage and unique products from an unscrupulous broker taking advantage of the opportunity to run a lightly regulated business.”

However, an ideal outcome of the proposed UK legislation would be to create the opportunity to pursue a balanced approach to regulation and make adjustments to the MiFID regime. That way, the UK can become a viable and competitive jurisdiction for operating financial services.

Furthermore, the European legislators might keep amending the MiFID II regime, many of which have consumed a lot of time for firms in review and implementation. “Eventually there will be a wholesale update to the regime in the form of a MiFID III,” Perrott added.

MiFID II has promised a lot in the beginning, but after four years it is clear that the regulations have concentrated competition. Now, if the UK finally adopts its own regulatory framework, it would be a massive blow to the European regulations.