29 September 2016

Blog: MIFID II (3rd Consultation) - Change is inevitable

by Kevin Lapwood | 29 September 2016

The FCA has today published its third consultation paper on MIFID II which is due to be implemented on 3rd January 2018. Key proposals of the latest consultation paper include:

Strengthening inducement and research rules to drive better competition and ensure research is only produced and consumed where it adds value to investment decisions

Implementing requirements of full disclosure of costs and charges

Guidance on the responsibilities of providers for the fair treatment of customers

Extending the requirement of telephone taping to financial advisers, with the aim of providing benefits to both firms and their clients in resolving disputes in a quick and cost effective manner. We are open to receiving and exploring suggestions on alternative proposals for smaller financial advisers

In our view, this represents a subtle tightening of the rules that will be applied with the implementation of MIFID II and a clear signal that the current timetable for its implementation is not likely to be derailed by the ongoing BREXIT negotiations. On the latter point, it is our view that even the hardest of BREXIT campaigners will accept that there is a need to adopt EU wide regulation if the UK is to remain at the centre of European financial services. MIFID II type legislation is now effectively global legislation so there is little chance that the UK would go it alone with any diluted proposals.

On the wider issue of what difference will it make to UK equity markets, we remain convinced that MIFID II will be the biggest disruption to the financial models of UK brokers since 1987. Charge unbundling, or the requirement for investing institutions to record and publish what they pay for non-dealing related services, will have a significant impact on the way in which stockbrokers are paid. Ancillary services like research and corporate access will have a market price in the future. It will no longer be acceptable for brokers to promote these as loss-leaders to be absorbed in all-encompassing secondary commission fees in order to attract more lucrative primary business.

For investment institutions, it will mean that they are required to provide more transparency on what services they pay for on behalf of their clients and are therefore included within their management fees, as opposed to those that are added as part of the dealing costs. For corporates, it will force them to evaluate the share promotional services that are incorporated and guaranteed top be delivered within their broking fees as opposed to those that are currently included pro-bono as a result of trading volumes in their shares. Some may well decide that they need more promotion.

For the market as a whole, it represents the end of a financial model that has survived for hundreds of years despite the gradual erosion in commissions that has taken place since Big Bang. It is undoubtedly disruptive. We do not believe that it will result in a single alternative replacement model being adopted. On the contrary, several alternative structures are likely to arise. Bespoke independent research paid for by investors has always been available and it is likely to expand. Issuer-sponsored research has been around for over a decade and has grown rapidly. Corporate access integrators are gaining traction and could become the essential new components in the unbundled universe. Brokers may well retain some capability in-house but are likely to outsource far more. Corporates, freed from a one-stop shop structure, will be able to shop around for the best deals across a range of investor services, or move others in-house. The key fact underpinned by today’s FCA update is that change is inevitable.