Just before the summer recess on 28July, the European Commission published the final version of the Regulatory Technical Standards for investment firm’s reporting of transactions to competent authorities - C2(2016 (the RTS). The RTS amplifies the transaction reporting obligation in Article 26 of the MiFID II Level One Regulation (MiFIR).
In broad terms, the RTS gives detail on:
- when the reporting obligation arises; and
- what the report needs to contain.
The Recitals to the RTS emphasise the overall purpose of MiFID II transaction reporting, i.e. the need to ensure effective market surveillance.
The RTS contains a few changes from the draft RTS published for consultation on 28 September 2015. The RTS is due to come into force on 3 January 2018.
Its provisions and the transaction reporting obligation can be summarised as follows:
- Transaction reporting must be in a specified format and contain specified information
- “Transaction” is broadly defined but excludes, for example, collateral transfers
- “Execution” of a transaction is broadly define to include discretionary investment
- The “transmission” concept is designed to avoid non-reporting or double reporting
- Investment firm executing a transaction must be identified
- Natural persons referred to in transaction reports must be clearly identified
- Transaction reports must include the full name and date of birth of natural persons and Legal Entity Identifiers for others
- Persons or algorithms responsible for investment decisions must be identified
- Persons or computer algorithms responsible for execution of a transaction must be identified
- Applicable waivers must be identified
- Short sales must be identified
- For a combination of financial instruments, each instrument must be reported separately
- A firm must not provide services to a client that triggers a transaction reporting obligation until it obtains an LEI for that client
- The branch of a firm must generally report transactions for that firm’s home member state authority
- The RTS specifies the methods and arrangements for reporting financial transactions
- The RTS introduces rules for determining the most relevant market in terms of liquidity for instruments not covered by MiFID I
The basic obligation revisited
Article 26 of MiFIR requires investment firms to report complete and accurate details of any transaction to the competent authority as quickly as possible, and not later than the close of the following working day.
As explained in the MiFIR recitals, the purpose of transaction reporting is to enable competent authorities to conduct market surveillance to monitor the fair and orderly functioning of markets and the activities of investment firms, and to detect and investigate potential cases of market abuse. The RTS Recital echo these concerns.
Under Article 26, ESMA is given the power to develop draft regulatory technical standards to specify further the rules applicable to reporting transactions to competent authorities by investment firms. The RTS is the child of this provision.
An overview of the RTS
1. Transaction reporting must be in a specified format and contain specified information
Where there is a requirement for transaction reporting, RTS Article 1 requires consistency in way transactions are reported, and so reports must include a specified list of details pertaining to the financial instruments concerned, as well as be in a specified standard and format. Interestingly, the requirement is that the transaction report “include” all the specified details, rather than, as was the case under the draft RTS, that the transaction report be provided using all of the specified details. This may leave scope for competent authorities to state that the specified list is non-exclusive, and so further additional information is required to be submitted as part of the transaction report.
2. The meaning of transaction is defined broadly
RTS Article 2 defines the meaning of a transaction for reporting purposes broadly, in order to cover situations which give rise to market abuse concerns, as well as purchases and sales of reportable instruments, other cases of acquisition or disposal of reportable instruments, and changes to a notional amount of a derivative contract. The final RTS differs from the previous version as to the list of acts or events which are not classified as transactions, as they do not need to be reported to competent authorities for market surveillance purposes. In this respect, the European Commission flags that collateral transfers are explicitly excluded from the meaning of transaction.
3. The RTS clarifies the meaning of execution of a transaction
RTS Article 3 clarifies when investment firms are required to report transactions by specifying the activities or services which lead to a transaction. An investment firm executes a transaction where it performs the MiFID activities of reception and transmission of orders, execution of orders on behalf of clients or dealing on own account, makes the investment decision in accordance with a discretionary mandate given by a client, or transfers financial instruments to or from accounts, provided that in each case such services or activities have resulted in a transaction. However, investment firms which have transmitted orders resulting in transactions are not considered as having executed those transactions.
4. Transmission of an orders should be used to avoid non-reporting or double reporting
RTS Article 4 provides that in order to avoid non-reporting or double reporting by investment firms that transmit orders to each other, the investment firm that intends to transmit the order should agree with the firm receiving the order whether the receiving firm will report all the details of the resulting transaction or transmit the order onwards to another investment firm. In the absence of an agreement, under the final RTS, the order is deemed not transmitted and so each investment firm must submit its own transaction report containing the details pertaining to the transaction that each investment firm is reporting. This requirement is different to that under the draft RTS, which required the transmitting firm to submit a transaction report which includes all the details of the resulting transaction and the receiving firm to submit a transaction report which included the transmitted details.
The RTS also specifies the details relating to the order to be transmitted to ensure the competent authorities receive information that is relevant, accurate and complete. The details must be checked by the firm receiving the transmission order, and verify whether there are obvious errors or omissions before submitting a transaction report or transmitting the order. The requirement to verify before transmitting the order is a new requirement in the final RTS which did not exist under the draft RTS.
5. Investment firm executing a transaction must be identified
Investment firms responsible for execution of transactions are required by RTS Article 5 to ensure that they are identified in the transaction report using validated, issued and duly renewed legal entity identifiers (LEIs), in order to ensure their certain and efficient identification.
6. Natural persons are required to be clearly identified
Natural persons referred to in transaction reports are required by RTS Article 6 to be identified by a concatenation of the country of their nationality followed by identifiers assigned by the country of nationality of those persons, to ensure their consistent and robust identification. Where those identifiers are not available, natural persons are identified by using identifiers created from a concatenation of their date of birth and name.
7. Specific details of the identity of the client and identifier are required
RTS Article 7 requires transaction reports to include the full name and date of birth of clients who are natural persons and to identify clients who are legal entities by their LEIs, in order to facilitate consistent, unique and robust market surveillance and client identification.
8. The persons or computer algorithms responsible for the investment decisions must be identified
One of the areas of focus for MiFID II / MiFIR is the issue of algorithmic trading, and so, where an investment decision is made by a person other than the client or by a computer algorithm, RTS Article 8 requires that person or algorithm to be identified in the transaction report. Where more than one person in an investment firm makes the investment decision, the person taking primary responsibility for the decision should be identified in the report. The final RTS states that the person taking primary responsibility for the investment decision must be determined in accordance with pre-determined criteria established by the investment firm, which goes further than the draft RTS which stated only that the determination of the person taking primary responsibility be on a consistent basis.
9. The persons or computer algorithms responsible for execution of a transaction must be identified
Under RTS Article 9, a person or computer algorithm within an investment firm needs to be identified in the transaction report if responsible for determining:
- the venue to access;
- the investment firm to which the orders are to be transmitted; or
- any other conditions related to the execution of the order.
Where both a person and computer algorithm are involved, or more than one person or algorithm is involved, the investment firm needs to determine which person or algorithm is primarily responsible for those activities. Again, the final RTS goes further than the draft RTS in requiring that the selection of the primarily responsible person or algorithm is not only on a consistent basis but also following predetermined criteria.
10. If an applicable waiver is invoked this must be identified
RTS Article 10 requires that transaction reports identify the applicable waiver pursuant to MiFIR Article 4 or Article 9 under which any executed transaction has taken place, in order to provide a clear overall picture of the transaction.
11. Short sales must be identified
Transaction reports must under RTS Article 11 identify transactions which, at the time of their execution, are short sale transactions, or are in part a short sale transaction, and investment firms must determine on a best effort basis the short sales transactions in which its client is the seller, including when an investment firm aggregates orders from several clients.
12. For a combination of financial instruments, each instrument must be reported separately
RTS Article 12 obliges investment firms executing transactions involving multiple financial instruments to report for each financial instrument separately and to link those reports by a unique identifier at the level of the firm to the group of transaction reports related to that execution. This is to give the competent authority a global view and the ability to see separately transactions in respect of each financial instrument that is part of a transaction in which multiple financial instruments are involved.
13. A firm must not provide services to a client that triggers a transaction reporting obligation until it obtains an LEI for that client
Investment firms are required by RTS Article 13 to obtain LEIs from their clients before providing services which would trigger reporting obligations in respect of transactions carried out on behalf of those clients and use those LEIs in their transaction reports.
14. The branch of a firm must generally report transactions for that firm’s home member state authority
Where an investment firm executes a transaction, that firm is required by RTS Article 14 to submit a report only once to a single competent authority, namely that of its home Member State. This is irrespective of whether or not a branch is involved, or whether the reporting firm executed the transaction through a branch in another Member State. If a transaction is executed wholly or partly through a branch of an investment firm located in another Member State, the report is to submitted only once to the competent authority of the home Member State unless otherwise agreed by the competent authorities of the home and the host Member State. The home Member State will then route the report to the relevant competent authorities for the branches taking part in the relevant transactions, and so investment firms are must include granular data on branch activity in their reports.
15. The RTS specifies the methods and arrangements for reporting financial transactions
RTS Article 15 sets out the methods and arrangements by which transaction reports are generated and submitted by trading venues and investment firms, to ensure that complete and accurate transaction reports are submitted to competent authorities. The final RTS gives further detail to the draft RTS as it clarifies that Approved Reporting Mechanisms (ARMs) are not covered by these requirements, as they already have other equivalent obligations.
16. The RTS introduces rules for determining the most relevant market in terms of liquidity for instruments not covered by MiFID I
The purpose of determining the most relevant market in terms of liquidity is to enable competent authorities to route of transaction reports to the correct relevant competent authorities and investors to identify the competent authorities to whom they must report their short positions. These rules, which existed under MiFID I, are largely unchanged by RTS Article 16 but are introduced specifically for various instruments which were not covered by MiFID I, namely for debt instruments issued by a third-country entity, emission allowances and for derivatives for which the immediate underlying has no global identifier, or is a basket or a non-EEA index. It is worth noting that the addition of emission allowances to this list is introduced by the final RTS, as these were not covered by the draft RTS.
Firms should already be putting in place transaction reporting infrastructure and should address the differences between the draft RTS and the final RTS.