EU Proposes Measures to Clamp Down on High Frequency Trading

  • By: Staff Editor
  • Date: October 21, 2011
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The European Commission first passed the Markets in Financial Instruments Directive or Mifid in 2007. At the time, the EU hoped that the directive would break up the monopolies of national stock exchanges and increase competitiveness among its member nations. As a result of Mifid, new stock exchanges were set up and started operating across the continent.

But high frequency trading and non-transparent over the counter transactions in equities, derivatives and other products led to increased volatility in financial markets, especially during and after the financial crisis. Uncontrolled and opaque commodity speculation and high frequency trades, were according to The Guardian, blamed for the 2010 “flash crash” on Wall Street.
The EU internal markets commissioner Michel Barnier was quoted in the Financial Times saying that the new proposals, called Mifid II, would overhaul the way markets operated in Europe.
In a press statement Barnier said that:
"Financial markets are there to serve the real economy – not the other way around. Markets have been transformed over the years and our legislation needs to keep pace. The crisis serves as a grim reminder of how complex and opaque some financial activities and products have become. This has to change. Today's proposals will help lead to better, safer and more open financial markets."
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New Mifid proposals
According to the Commission’s statement, the new Mifid, dubbed “Mifid II” by the press, includes the following proposals:
  • More robust and efficient market structures:
    • MiFID will bring a new type of trading venue into its regulatory framework: the Organized Trading Facility (OTF), which are currently not regulated but are playing an increasingly important role.
    • The revised MiFID will continue to allow for different business models, but will ensure all trading venues have to play by the same transparency rules and that conflicts of interest are mitigated.
    • In order to facilitate better access to capital markets for small- and medium-sized enterprises (SMEs), the EU will introduce the creation of a specific label for SME markets. This will provide a quality label for platforms that aim to meet SMEs' needs.
  • Taking account of technological innovations:
    • New safeguards will be introduced for algorithmic and high frequency trading activities which have drastically increased the speed of trading and pose possible systemic risks.
    • These safeguards will include the requirement for all algorithmic traders to become properly regulated, provide appropriate liquidity and rules to prevent them from adding to volatility by moving in and out of markets.
    • Mifid II will improve conditions for competition in essential post-trade services such as clearing, which may otherwise frustrate competition between trading venues.
  • Increased transparency:
    • By introducing the OTF category, the new Mifid will improve the transparency of trading activities in equity markets, including "dark pools" (trading volumes or liquidity that are not available on public platforms).
    • Exemptions would only be allowed under prescribed circumstances.
    • Mifid II will also introduce a new trade transparency regime for non-equities markets (i.e. bonds, structured finance products and derivatives).
    • As the new requirements will gather all market data in one place, investors will have an overview of all trading activities in the EU, helping them make a more informed choice.
  • Reinforced supervisory powers and a stricter framework for commodity derivatives markets:
    • Mifid II will reinforce the role and powers of regulators.
    • In coordination with the European Securities and Markets Authority (ESMA) and under defined circumstances, supervisors will be able to ban specific products, services or practices in case of threats to investor protection, financial stability or the orderly functioning of markets.
    • Mifid II will increase its supervision of commodity derivatives markets and introduce a position reporting obligation by category of trader, helping regulators and market participants to better assess the role of speculation in these markets.
    • The European Commission proposes to empower financial regulators to monitor and intervene at any stage in trading activity in all commodity derivatives, including in the shape of position limits if there are concerns about disorderly markets.
  • Stronger investor protection:
    • Building on a comprehensive set of rules already in place, the revised MiFID will set stricter requirements for portfolio management, investment advice and the offer of complex financial products such as structured products.
    • In order to prevent potential conflict of interest, Mifid II will prohibit independent advisors and portfolio managers from making or receiving third-party payments or other monetary gains.
    • Mifid II will also impose new requirements for corporate governance and managers' responsibility for all investment firms.
What happens next?
As these changes have just been proposed by the Commission, they will have to be debated in the European Parliament and EU member states.




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