MiFID II 101
In an industry notoriously fond of an acronym, MiFID II is shortform for the second ‘Markets in Financial Instruments Directive’ from European regulators which comprises a set of rules that will materially change the way investors’ money is managed, writes DIY Investor’s Christian Leeming.
MiFID II builds on regulation brought in during 2007 that sought to make investing more transparent for both retail and institutional investors and standardised regulatory disclosures required for particular markets; it seeks to improve transparency in investment markets across the continent by being clearer about costs, charges and fees and explaining them in a standard way, up front.
It affects any company that provides services to clients linked to ‘financial instruments’ – shares, bonds, collective investments and derivatives – and the places where those instruments are traded.
From 3rd January, MiFID II governs the way that financial investment providers, traders, brokers and advisers exchange data and information, how they charge and how they disclose their charges.
Despite negotiations to leave the EU, UK firms must still comply with European regulation although the process is likely to make things more complicated for financial services firms which face the difficult task of adjusting to an uncertain post-Brexit marketplace.
In a report issued last year financial watchdog, the FCA, revealed findings of an in-depth probe into the fund management industry which was particularly scathing about fund fees; it identified that many investors didn’t know how much they were really paying, or what they were paying for.
MiFID II requires investment firms to disclose information on all costs and charges related to financial instruments and ancillary services, including management, advisory, custodian, fund entry and exit levies; they will be required to express these costs as a percentage and in pounds and pence, and clients must be informed of costs incurred at least once a year.
Where variable charges, like transaction costs, are difficult to predict because a large political or market event could cause a big buy or sell response, previous years’ costs will be known and the directive stipulates that costs must be presented in an ex-ante (forecast) and ex-post (actual result) basis.
Clients of financial advisers, investment platforms and fund management firms have been required to update the information that is held to confirm their nationality and national client identifier in order to comply with the EU directive; those that do not respond will not be able to trade shares, ETFs, investment trusts, bonds and a number of other stock market-listed securities.
‘seeks to improve transparency in investment markets’
Whilst many changes will not be visible to the investor MiFID II is largely focused on transparency, protecting the investor and putting their best interests first; transparency on fees will improve as the directive seeks to encourage products and services delivered in response to investors’ needs not the fund managers’ desire to drive up sales.
The cost of investment research has historically been included as part of the trading levy but under the new rules, fund managers are required to provide investors with a clear breakdown of the charge; fund managers will no longer be able to receive free investment research from the brokerages and investment banks they use to buy and sell holdings for their funds.
Instead, they will be required to make explicit payments for investment research so they can demonstrate that they have not been induced to trade with a particular company.
Some fund managers such as Henderson and Schroders have confirmed plans to pass some of this cost onto investors; others including Hermes, Woodford and M&G plan to absorb the cost of research themselves.
Financial advisers are now required to detail how the advice they offer will meet their clients’ objectives; those who offer products and services from the whole of the market (IFA) and discretionary fund managers are banned from receiving third party payments in relation to their services.