MiFID II: the clock is ticking
31 Jan 2017
The Markets in Financial Instruments Directive II (MiFID) is now only months away and meeting the product governance and target market provisions laid out in the regulation is a sizeable and exhaustive project for fund managers.
Client suitability provisions under MiFID II impose a responsibility and obligation on fund managers to ensure that they are selling products to the correct target market. Leaving preparations until the last minute is not sensible given the scope of what is required under this new regulatory framework. So what do the rules entail?
Previously, the distributor was the sole party responsible for making sure investors were being sold products that were suited to their objectives and risk tolerance. This responsibility now falls on the manager as well under MiFID II. The manager will have to correctly identify its target market on a fund-by-fund basis, clearly outlining what types of client a particular product is suitable for. This information needs to be thoroughly documented and provided to distributors. Distributors in turn will need to supply information on end clients to the fund managers.
Any non-compliance with MiFID II by distributors and fund managers will be met with regulatory fines and reprimands, something which will cause financial distress and incalculable damage to reputations.
Fund manufacturers are making headway on the various MiFID II provisions although progress for distributors across Europe appears mixed. Worrisome gaps do exist despite the imminent deadlines as some firms opt to simply wait until the summer to execute their MiFID II strategy when the final regulations are due to be published. However, the majority of fund manufacturers have invested time and resources into MiFID II action plans, although some firms may have fallen behind the curve.
There are also geographical disparities. The Retail Distribution Review (RDR) in the UK and similar legislation in The Netherlands both overlap with some of the provisions in MiFID II, meaning managers in those jurisdictions have already implemented aspects of the incoming regulation and are in a solid position for MiFID II compliance. This is not the case in other EU countries where the implications of MIFID II are new. Any managers distributing Luxembourg SICAVs or Irish OECS in APAC hubs will also be covered by MiFID II rules.
Distributors are in a challenging situation as they see MiFID II as purely another regulatory cost with no commercial benefits. As a result, a number of distributors have invested little time and money in implementing MiFID II plans around supplying data while some have yet to even put a project team together to assess the impact of the regulation. Such inaction is likely to cause problems as the deadline approaches.
A byproduct of MiFID II though is that fund managers will have enhanced and highly detailed insights across their global distribution network. In short, it will allow managers to identify which distributors have the broadest reach across multiple jurisdictions, and subsequently enable firms to drive efficiencies across their sales and distribution processes. This could encourage consolidation and price competition in the distribution market, something which will be welcomed by managers who themselves are facing scrutiny over costs from clients and regulators.
Single country distributors – as opposed to their global peers – are more vulnerable under MiFID II, although consolidation with other providers would likely prolong their businesses. Admittedly, some distributors may attempt to charge fund managers in exchange for data on clients. However, the data may not be holistic and any added, unexpected costs for managers will not be well received.
Many distributors point out they are already in compliance with MiFID II as they routinely send fund managers emails or provide them with access to a File Transfer Protocol (FTP) site containing all of the relevant client information required under the rules. While this barebones compliance effort by distributors will probably allay EU regulators, it will do very few favours for fund managers.
A large global manager will often work with several hundred distributors and platforms, who supply client data in multiple formats, languages and structures. This data dump is significant and can overwhelm managers. Consolidating all of the information into a single, holistic format as part of their new compliance requirements is not a straightforward undertaking.
It is possible for fund managers to internalise this data collation exercise, but this would potentially inflate technology budgets eating into resources during a period of margin compression. Many managers continue to operate legacy technology, and internalising data aggregation would add just another layer of complexity and cost to their IT infrastructure and spend. Furthermore, if managers were to internalise this process, they would struggle to meet certain MiFID II obligations as they would only obtain a client view, and not a market-wide view.
MiFID II action plans need to be in train given the urgency of the deadline, and so many firms are looking to outsource data aggregation exercises as it can be more efficient and cost-effective than repackaging or fine-tuning their internal systems and processes.