Reiterating the importance of MiFID II in terms of market abuse

Published on June 27, 2024 by Tejaswini Venkatesh

Introduction

Markets in Financial Instruments Directive ll (MiFID II) is a regulatory framework implemented by European Union to regulate financial markets and protect investors. It aims to prevent market abuse, including transaction abuse. Transaction abuse refers to behaviour that seeks to manipulate markets or mislead investors through transactions in financial instruments.

MiFID II outlines a number of requirements to detect/prevent transaction abuse. The general process to be followed when handling a transaction under MiFID II is as follows:

• Identifying: Investment firms/trading venues subject to this framework need to implement systems and controls to detect potential transaction abuse. This would include monitoring trade activity, order flows and relevant data for suspicious patterns/behaviours.

• Surveillance and monitoring: Firms need to deploy surveillance systems and have procedures in place to monitor trading activity either in real time or retrospectively. Such systems use sophisticated algorithms that identify irregularities/potential instances of abuse.

• Reporting: If a firm has identified suspicious trading activity or has reasonable grounds to believe transaction abuse has occurred, it must report it to the relevant authorities. MiFID II lists requirements for reporting the different types of market abuse/insider dealing/transaction manipulation.

• Investigation: To gather information with a view to understanding whether MiFID II was violated, authorities such as NCAs and ESMA would investigate reported cases and request additional information from the firm.

• Enforcement: If regulators confirm transaction abuse, they would take action against the firms/individuals involved. This could include fines, sanctions, public censure or other measures to ensure compliance with MiFID II regulations.

• Action for remediation: Over and above the enforcement actions, regulators may require the firm to take remedial action to address deficiencies in the firm’s systems and implement controls to prevent such abuse in the future. This involves deploying enhanced surveillance measures and compliance procedures, and provided updated training to staff.

Key components of MiFID II

• Transaction reporting – All transactions in financial instruments, with details such as price, volume and counterparties.

• Best execution – Firms must have reasonable steps for execution, considering factors such as price, cost, speed and likelihood of execution and settlement.

• Investor protection and disclosure – Firms must provide clients with clear, comprehensive information about products, services offered, costs, charges, associated risks and other relevant information so that clients can make informed investment decisions.

• Market structure – There are significant changes noted in the regulation of trading venues and the oversight of high-frequency trading.

• Pre- and post-trade transparency – It requires transparency of equity, non-equity and bond markets to ensure trading information is readily available to participants, facilitating price discovery and improving market efficiency.

• Product governance and suitability – Firms must always assess the compatibility of products with the needs of clients, to promote investor protection and reduce risk of mis-selling.

• Record keeping – Firms need to maintain accurate records of activities, client communications, orders and transactions for a specified time period, and these should be made available to authorities on request. Firms are also obligated to report to regulators regularly.

Recent developments in MiFID II

ESMA reports on the application of MiFID II marketing requirements (europa.eu)

How Acuity Knowledge Partners can help

With our enhanced knowledge and exposure to markets and regulations, we help clients identify potential areas for market abuse and implement strong mechanisms for compliance. We also implement holistic approaches to trading activity from a trade and communication (email and voice) perspective that help identify patterns and analyse behaviour to reduce the potential for such abuse. We also identify process gaps and provide tailored solutions.

References:

• European Securities and Markets Authority (ESMA)

• Financial Conduct Authority (FCA)

• MiFID II Directive and Regulatory Technical Standards

---

---