In this issue we a look at recent guidance from ESMA on the Market Abuse Regulation, particularly in relation to investment recommendations, as well as proposed changes to ISS's UK voting policies.

ESMA updates its Q&A on the Market Abuse Regulation

The European Securities and Markets Authority (ESMA) has issued an updated Q&A on the Market Abuse Regulation (MAR). The Q&A contains five new questions covering dealings by persons discharging managerial responsibilities (PDMRs) and their closely associated persons (PCAs), and investment recommendations.

A copy of the update Q&A can be found here.

Dealings by PDMRs and PCAs

Article 19(1) of MAR requires a PDMR or PCA to notify an issuer when he or she deals in the issuer's shares or someone else deals on his or her behalf.

Notifications are only required once dealings reach an annual threshold of 5,000. However, MAR does not explain how to calculate this threshold when dealings occur in a currency other than euros.

The Q&A confirms that, when working out whether the threshold has been met, if a transaction is carried out in a noneuro currency, the value should be converted into euros at the official daily spot exchange rate at the end of the business day on which the transaction takes place.

This means calculating the euro value of every transaction by a PDMR or PCA at the time it is carried out, so it is possible to aggregate historic transactions to work out if the threshold is reached.

That said, many issuers have adopted dealing codes that require managers and other employees to notify all dealings in their issuer's securities, not just dealings above the 5,000 threshold. The FCA has also confirmed in Policy Statement PS16/13 that it is content for issuers to notify dealings below the 5,000 threshold.

The new guidance may not, therefore, affect the existing practice of many issuers.

Investment recommendations

This has been a topic of significant discussion. Article 20(1) of MAR states that a person making an investment recommendation must ensure the information in the recommendation is objectively presented and disclose any interests and conflicts of interest concerning the securities in question.

This seemingly innocuous obligation can in practice result in a significant burden for financial institutions and market-makers. For example, an investment recommendation must disclose the identity of all persons responsible for it "clearly and prominently" (including their names and job titles), distinguish clearly between facts and opinions, and identify all material sources of information (including their level of reliability).

MAR defines an investment recommendation as information intended for distribution that recommends or suggests an investment strategy concerning one or more financial instruments or issuers. This includes any opinion as to the present or future value or price of securities.

For this reason, it is important to understand what constitutes an investment recommendation.

The updated Q&A provides further colour on this definition.

  • The Q&A confirms that oral and electronic communications are capable of being investment recommendations. This includes telephone calls, "chat" functions, "morning notes" and "sales notes". The person making the communication should conduct an assessment based on the substance of the communication and not its form.

This is not surprising, but it does present a challenge for financial institutions, which should ensure there are robust procedures and scripts in place that employees must follow when engaging with clients by phone or (as is now quite common) using Internet chat functions.

  • A communication that does not refer to an issuer or financial instrument will generally not be an investment recommendation.

But if the communication contains information that, to a reasonable investor, implicitly recommends a specific financial instrument or issuer, it may be an investment recommendation. This could happen even if the communication only explicitly covers more general matters, such as spot currency rates, sectors, interest rates, loans, commodities and macroeconomic variables.

Organisations will need to analyse carefully any market watch bulletins or sector analyses. Where analyses refer to smaller sectors or specific markets, institutions should be more alive to the possibility they may be making an investment recommendation.

  • ESMA will continue to consider a communication as likely to be an investment recommendation if it contains a valuation statement for specific financial instruments. This includes indications that specific securities are "undervalued", "fairly valued" or "overvalued".

Likewise, a "quantitative fair value estimate" providing a projected price level or "price target" may turn a communication into an investment recommendation.

The rationale in both cases is that these indications of price or value amount to recommending or suggesting an investment strategy, one of the components of an investment recommendation. This mirrors ESMA's previous position under the Market Abuse Directive and essentially continues ESMA's existing practice.

Practical implications

The updated ESMA guidance is welcome and helps to clarify various areas of concern. However, it also serves to emphasise the care that organisations will need to take.

Investment firms, credit institutions and other organisations should ensure they have policies in place to review content and ensure they comply with the requirements under MAR. In particular, staff training, as well as procedures for conducting telephone calls and on-line discussions, will be important to ensure employees do not stray "off-script" and inadvertently make recommendations.

For FCA-authorised firms, this may already be built into existing systems and controls they have implemented to ensure compliance with the FCA Handbook.

In some cases, firms will want to avoid making an investment recommendation at all. In others, it will be a case of ensuring all the required information is included.

ISS consults on its UK and Ireland voting policies

Institutional Shareholder Services (ISS) is consulting on changes to its UK and Ireland voting policies, which set out when ISS recommends that shareholders vote against a proposed resolution. The consultation papers can be found here and here. Proposed changes include:

  • An increased focus on how new executive remuneration proposals align with good practice in the ISS voting guidelines, their link to the company's strategic objectives, whether or not they have an appropriate long-term focus, and the extent to which they help simplify executive pay.
  • Recommending that shareholders vote against the reelection of the remuneration committee chair when there has been a serious breach of good practice.
  • Recommending that audit and remuneration committees of AIM companies comprise only independent nonexecutive directors (in line with QCA guidance), rather than merely a majority of independent non-executive directors (as at present).