MiFID II/MIFIR Demystified

Report by ISITC Europe to demystify MIFID II and MIFIR.

Author: Martin, Sexton, Principal Consultant at London Market Systems

On 20th October 2011, the European Commission published two proposals: the revised Markets in Financial Instruments Directive (MiFID II), along with Markets in Financial Investments Regulation (MiFIR). Both the Directive and Regulation aim to establish a safer and more transparent financial system by enhancing regulatory requirements, market transparency and investor protection. This initiative is broken down into three main parts:

• Best execution and surveillance;
• Monitoring and compliance; and
• Regulatory reporting and transparency.

MIFID II/MIFIR sets out a number of reporting obligations in relation to the disclosure of trade data to the public and competent authorities. This replaces the original MiFID reporting requirements, that primarily focused to exchange traded equity instruments.  The asset classes within scope of MiFID II include:  Equities, FX, Interest Rates (this asset class includes Fixed Income),Credit and Commodities and encompasses multiple  contract styles (e.g. swaps, forwards, etc… )  within each asset class.

Given the greater coverage of financial products, more firms will be caught by the reporting obligations. This includes portfolio managers, who can no longer rely on sell side brokers to report on their behalf and under certain circumstances this result in the need for the buy-side to report a trade to an APA.

To adhere to MiFID II/MiFIR there are a number of reporting facilities, these include:

Approved Publication Arrangement (APA): Provides pre-trade transparency publications and post-trade publishing of trade information and make such information freely available 15 minutes after receipt. These take the form of trade reports which are expected to include the financial product identifier (an ISIN), the price and its notation, the volume traded, date/time of the transaction and the date/time it was reported, and the trading venue, along with any specific conditions indicator, if applicable. There are a number of organisations have indicated they intend to offer this service, these include the Deutsche Bourse, the LSEG/Boat, TP ICAP, Thomson Reuters, TradeWeb and TRAX.

Approved Reporting Mechanism (ARM): Supports the requirement to capture the transaction reports and publish them to the National Competent Authorities (NCA), who in turn must disseminate to the Central Competent Authority (CCA). The information required varies depending upon the Asset class and contract style. For further information, we advise the reader to examine the section on this site titled, “Transaction Reporting”. Each NCA maintain their own list of registered ARMs and what products they are approved to report. For example, CREST is not registered to report OTC trades with the FCA, whilst the others are. The ARMs currently registered with the FCA include Credit Suisse/DARE, TRAX, UNAVISTA, GETCo and TransacPort For the latest list of ARMs go to: https://www.fca.org.uk/markets/data-reporting-services-providers-drsps

Consolidated Tape Provider (CTP): like an APA, a CTP provides trade transparency publications and post-trade information, nonetheless as a broader category of ESMA Data Reporting Services Providers it consolidates information from multiple sources for publication.

National Competent Authority (NCA): Have the function of protecting consumers’ rights when dealing with credit or financial institutions, by ensuring firms accurately and timelessly report trading activities in their jurisdiction. A list of the NCAs can be obtained by going to the ESMA website:

https://www.esma.europa.eu/about-esma/governance/board-supervisors-and-ncas

Trade Repository (TR): A Trade Repository or Swap Data Repository is an entity that centrally collects and maintains the records of over-the-counter (OTC) derivatives. Some Trade Repositories offer reporting capabilities to ARMs for its clients. For the list of registered Trade Repositories: https://www.esma.europa.eu/supervision/trade-repositories/list-registered-trade-repositories

This section focuses on the use of data formats and other considerations associated with data requirements in relation to end of day (T+1) transaction reporting to ARMs. The same validation rules apply to “trade” reports published to APAs.

The expectation is that ISO industry standards are to be deployed for reporting to the Competent Authorities. ESMA has also provided guidelines in relation to expected data formats, these are known as Regulatory Technical Standards (RTS):

https://www.esma.europa.eu/sites/default/files/library/2015/11/2015-esma-1464_annex_i_-_draft_rts_and_its_on_mifid_ii_and_mifir.pdf

This includes using ISO 20022 messaging, of which ESMA has created a “Restricted” ISO 20022 message set variant. Transmitting  firms should consider this when reporting, whether in ISO 20022 or other data formats. The expectation is that a reporting firm will supply information that adheres to the following content validation defined by ESMA, which at this junction has not gone through the ISO 20022 registration/evaluation process. The ESMA schema variants goes beyond the validation rules in the ISO draft message set,  currently being evaluated by the Standards Evaluations Group (SEG).  Worth highlighting that failure to adhere to the ESMA content validation will result in NCA rejecting reports submitted.

For further information, please refer to the ESMA Guidelines:

https://www.esma.europa.eu/sites/default/files/library/2016-1452_guidelines_mifid_ii_transaction_reporting.pdf

For material relating to the XML Schemas:

https://www.esma.europa.eu/policy-rules/mifid-ii-and-mifir/mifir-reporting-instructions

Most Trade Repositories and Approved Reporting Mechanisms will accept various data formats, be that CSV, XML or one of the industry standard protocols. However, the mandated data format accepted by the  National Competent Authorities is the ESMA ISO 20022 “Restricted” data formats.

Typical message flows between the entities in the reporting process:

If firms wish to use a industry accepted  standards, the following material is available online:

• FIX: Extension packs are available on the FIX Protocol website: http://www.fixtradingcommunity.org/pg/blog/fplpo/read/3794511/fix-trading-community-announces-enhancements-to-the-fix-protocol-to-meet-the-requirements-of-mifid-ii-and-mifir
• FpML: The Reporting Working Group continues to work on the moving landscape of MiFIR and the aim is for this to be supported by version 5.10. Nonetheless, It is appreciated that TRs and ARMs are likely to use earlier versions of the standard with extensions. The DTCC GTR facility, for example, plans to use version 5.5. The MiFIR Mappings (http://www.fpml.org/docs/FpML-global-regulatory-reporting-mapping-draft.xlsx).  Versions of the FpML Schemas can be found on the FpML website (http://www.fpml.org/).
• ISO 20022: Once approved, the MiFIR submission will be available on the ISO 20022 website (http://www.iso 20022.org/).
  • ESMA’s “Restricted” variant schemas:
    • Reporting: (https://www.esma.europa.eu/sites/default/files/library/2016-_annex_2_messages_schemas.zip)
    • Double volume cap: (https://www.esma.europa.eu/sites/default/files/library/2016-_annex_1_double_volume_cap_xml_schema.zip)
    • FIRDS transparency: (https://www.esma.europa.eu/sites/default/files/library/2016-_annex_2_firds_transparency_xml_schema.zip)
    • FIRDS reference data reporting: (https://www.esma.europa.eu/sites/default/files/library/2016-_annex_6_firds_reference_data_xml_schema.zip)

For documentation relating the above schemas, including the business and technical validation rules, please refer to: (https://www.esma.europa.eu/policy-rules/mifid-ii-and-mifir/mifir-reporting-instructions).

In addition to acceptable message formats and ESMA content validation, there is the expectation of using ISO content standards, these include:

• ISO 10962 (CFI) – the classification of Financial Instruments (http://www.anna-web.org/standards/cfi-iso-10962/). Based on the CFI allocation ESMA has provided a matrix of what valuation terms are expected to be populated: (https://www.esma.europa.eu/sites/default/files/library/cfi_validations.xlsx)
• ISO 6166 (ISIN) (http://www.anna-web.org/standards/isin-iso-6166/), is now being used not only to uniquely identify a transferable/fungible instruments but to uniquely identify OTC bilateral trades. The latter is being achieved via the use of the Derivatives Service Bureau (DSB) which uses a set of reference data terms (primarily identified in ESMA’s RTS 23) to facilitate this. In addition, the DSB will also provide a CFI for each ISIN. (http://www.anna-web.org/home/derivatives-service-bureau/)
• ISO 18774 (FISN): the Financial Instrument Short Name (http://www.anna-web.org/standards/fisn-iso-18774/)
• ISO 17442 (LEI) The Legal Entity Identifier issued by a Local Operating Unit (LOU) – (ISO Standard: https://www.iso.org/standard/59771.html, also refer to https://www.leiroc.org/ to understand issuance).
• ISO 10383 (MIC) – The exchange and market identifier used to identify exchanges, MTFs, SI, etc… (https://www.iso20022.org/10383/iso-10383-market-identifier-codes)

In January 2018, the aim is to go-live with the Financial Instruments Reference Data System (FRDS). This is to be a repository of reference data with the aim of supporting the MiFID/MiFIR processes. It has been setup by ESMA in cooperation with the NCAs to collect and publish reference data in a uniform format. It will act as a consolidated source of MiFID II reference data. The expectation is that it will become a one stop source of reference data soon after its go-live.  For further understanding of the FRDS, please refer to the section on this site titled, “Data Formats and Validation Rules”.

There are numerous other reference data touch points that need to be considered, such as instrument liquidity, party roles and how to interpret the meaning of a  buyer and seller in the context of OTCs. A number of questions are still outstanding and could benefit from market practice being documented.

MiFID II highlights the need to retain voice, mails, emails, faxes, meetings minutes and notes relating to client orders for 5 years, where subsequently the deal was captured electronically at any point in the trade lifecycle.

Organisations will also need to provide evidence that the appropriate processes are in place, this includes periodically reviews of the recorded material to demonstrate adherence.