Fiona Rintoul, editorial director of Funds Europe, recently chaired a panel to try to gauge the effect of MiFID on asset management in the two months since its first phase of implementation
If MiFID (Markets in Financial Instruments Directive) wasn’t exactly eagerly anticipated, it was certainly anticipated vigorously. Reams of column inches illuminated asset managers about the potential pitfalls awaiting them, while consultants and IT providers leveraged dire warnings about the need to be ready for the dreaded Directive to market their services.
Now that the Directive is upon us – even if it has not yet been implemented in all member states – it is perhaps easier to see whether it is, broadly, a good thing or a bad thing, and what the main consequences of it will be.
Recently I chaired a panel – entitled ‘MiFID – what has changed?’ – at the fifth anniversary meeting of the Monterey Funds Club (MFC), an alliance of specialist investment fund lawyers across Europe, which took place at the offices of Oostvogel Pfister Feyten in Luxembourg. During the panel, we conducted a straw poll to try and answer the first entirely fundamental question: is MiFID a good or a bad thing?
The result was an overwhelming endorsement of the Directive, with just one delegate joining the ‘bad thing’ camp.
This sounds like a ringing endorsement, but it wasn’t exactly. Everyone had plenty of caveats to bring to the table. Nonetheless, it does represent a substantial change from the position prior to the implementation on 1 November 2007, when audiences were often inclined to come out overwhelmingly against MiFID.
Perhaps the audience at the MFC was saluting the spirit of MiFID. After all, it is kind of hard to argue with the Directive’s aims, which include transparency, more choice and greater protection for retail investors, and more competition and lower costs on the trading side. When it comes to the detail, things get a bit more complicated.
MiFID – a brief history
MiFID is a complete rewrite of the Investment Services Directive (ISD). It’s a hugely detailed document (and a boring one, according to one of our MFC panelists) that affects different parts of the fund management business, including client-facing functions, trading functions, IT and operations, and compliance. Such was its scope that the industry lobbied the European Commission to persuade it to postpone application from the original date of April 2006 to November 2007.
Prior to implementation there were a number of concerns about the unintended consequences of certain clauses in the Directive. Key among these was the inducement clause, which fund managers argued would create an uneven playing field because it would require greater disclosure of fees from investment funds than from competing products not covered by MiFID, such as structured products.
What is the situation now that the Directive is finally in place?
The general view of the MFC was that not much has changed. It is worth pointing out again that there are several countries that have still to implement the Directive, and given that a key concern about MiFID has always been about how it will be implemented in the individual member states, the fact that implementation is not complete, means that any conclusions that can be drawn about the Directive at the moment are, of necessity, provisional.
Nevertheless, with that caveat, Mike Gould, head of compliance EMEA at Russell Investments, says: “Some of the rules are not really a novelty. The rules of engagement are the same, especially if you are coming at it from a UK perspective.”
The UK perspective may be key here. In the run-up to MiFID implementation, a survey from PwC Luxembourg showed that mainland European players put a much more sinister interpretation on MiFID than did their UK and US counterparts. Asked what the potential implications of MiFID on open architecture were, just 14% of UK/US players said they saw it as a threat, with 57% seeing it as a potential opportunity and 29% expected no or little implication. But among mainland European players, by contrast, 83% saw MiFID as a potential threat to open architecture; 17% expected no or little implication and nobody saw it as an opportunity.
To some extent the stasis highlighted by Gould may also be a matter of time. The benefits of greater competition on the trading side, such as a reduction in trading costs and more alternative trading venues, a key plank of MiFID, have not yet been felt, Gould added, but might be expected to come on-stream down the line.
Some of the consequences may also not have been felt yet. Pre-implementation, the PwC Luxembourg survey showed that 65% of fund managers expected MiFID to have a negative impact on the competitiveness of investment funds. It’s probably too early to say whether that prediction will prove correct.
It will, for example, take time for any negative affects accruing from the inducement clause to trickle through. “A lot will depend on investors’ and distributors’ reaction,” noted Bernardine Reese, a regulatory specialist at KPMG. There hasn’t yet been time for that reaction to be gauged.
Outrage & unfulfilled promises
Certainly, issues surrounding competition from structured products are far from solved. Pre-implementation, Marcus Mecklenburg, head of policy and associations at the BVI, gave voice to the deep frustration felt within Germany, the European market where structured products are most widespread and therefore present the biggest challenge, about this issue.
“It is an outrage that you can do whatever you want within the wrapper of a structured product,” he said. “Some product regulation would be helpful.”
At the MFC panel, Frédérick Hizette, chief compliance officer at Allianz Global Investors, provided an indication that the structured product issue is far from resolved despite the soothing noises made latterly by the Council of European Securities Regulators (CESR) about the level playing field issue. “We hate structured products,” Hizette said simply.
These uncertainties seem to have encouraged many fund managers to play a wait-and-see game. In the PwC Luxembourg survey, just 29% of fund managers said that they intended to modify their operating model as a result of MiFID, with 57% not intending to modify and 14% yet to decide.
It’s easy to see how discontent could set in further down the line. MiFID implementation has cost a lot, there’s a risk that it could create an uneven playing field, which damages funds’ competitiveness, and the promised better deal for end-clients is not yet in sight.
“At the moment, clients have not benefited from cost reduction or from the passport, which should bring more choice,” Hizette said, while Harold Parize head of compliance at HSBC Security Services, Luxembourg, only jokingly, suggested that litigation lawyers might benefit more from MiFID than retail clients.
A key difficulty with the supposed benefits that MiFID will bring retail investors (aside from the complexity of the Directive and the time that it will take for any efficiencies to filter through to the end client) is that the greater choice the Directive hopes to institute will only be beneficial to clients if they understand the choices before them. This is not something that can really be legislated for. “That’s a matter of education,” said Gould.
But perhaps the main problem is that there is so much that remains unclear. At a recent seminar on post-MiFID risks and rewards organised by the consulting company Proviti, the potentially debilitating effect of this uncertainty was one of the main themes to emerge. A report from the Proviti seminar says: “Several of the speakers [at the seminar] expressed serious concerns about the scope and timing of future MiFID changes and extensions in relation to commodity derivatives, and about the risks of future interpretations and pronouncements from CESR [which has recently published an extensive post-MiFID work programme] and from the European Commission.
“These, together with differing interpretations and implementation timetables of member state governments and regulators, created a significant business and regulatory risk over the next one to two years, it was feared, and would make it tough for financial institutions to devote the resources to keep up with and manage the further changes in store.”
This brings us to the thorny issue of what comes next. MiFID is in place (sort of), but few would argue that it is a perfect solution, even if it is generally viewed more positively now that it is in the pre-implementation stage.
In the past, there has been talk of tearing up existing regulation and starting again. Gareth Adams, director of compliance at Fidelity Investments, suggested that what was really required pre-implementation was a horizontal directive that would cover banking products, insurance products and investment products.
That may well be the best solution, but it would be a long time in the brewing and in the current climate of regulatory fatigue it looks unlikely to happen. Furthermore, at the moment most institutions are too busy dealing with the costs of MiFID to contemplate such a radical overhaul. Nonetheless, further less radical change is almost certainly to be expected.
“There are some contradictions between MiFID and Ucits,” noted the MFC panel. “Some work needs to be done to align the directives.”
© fe February 2008