FCA unveils final rules for MiFID II implementation; Confirms trusts status; DFMs subject to taping rules

The Financial Conduct Authority (FCA) has published its final policy statement on the implementation of MiFID II for UK firms, including setting out requirements for inducements and investment rsearch, as well as taping.

MiFID II, which comes into force on 3 January 2018, is intended to help improve the functioning of the European Union (EU) single market by achieving a greater consistency of regulatory standards and improving investor protection.

However, the FCA said in its policy statement that in some cases it is imposing additional requirements to help promote investor protection and market integrity, while avoiding distorting competition between different types of investment firms. For example, extra rules will be needed to maintain its existing Retail Distribution Review (RDR) adviser charging and platform rules.

In particular, the regulator highlighted a small number of conduct areas where it received the majority of feedback to its earlier consultation papers.

In response, its has made significant policy changes to some proposals, but for others it maintains its initial approach.

Key areas include:

Inducements in relation to research.

– The FCA will apply these provisions to collective portfolio managers and not only to investment firms that are subject to MiFID II.

– In response to consultation feedback, it is amending its guidance on how quickly research charge deductions should be passed into a research payment account (RPA), allowing greater flexibility. It is also clarifying that it does not intend to require investment managers to have a single RPA per research budget.

– It considers that firms should have the ability to implement a combination of RPA-based methods and use of their own resources (ie profit & loss) to pay for external research. However, a firm must set out in its research policy how it intends to allocate costs fairly across clients and portfolios.

– The regulator has also decided limited trial periods for a research service can be considered an “acceptable minor non-monetary benefit”, subject to strict conditions.

Best execution

– Contrary to the proposals on which the FCA consulted, it will not apply the changes in the best execution rules in MiFID II to Alternative Investment Fund Managers (AIFMs).

Appropriateness

– The regulator maintains its view, set out in its previous consultation paper, that collective investment undertakings other than Undertakings for Investments in Transferable Securities (UCITS), including non-UCITS retail schemes (NURS) and investment trusts, are neither ‘automatically non-complex’ nor ‘automatically complex’.

MiFID II requires firms distributing ‘complex’ products without advice to assess the ‘knowledge and understanding’ of retail investors before allowing them to buy and sell them.

Currently, the ordinary shares of investment companies are not considered complex, but it had previously been suggested they could be considered ‘automatically complex’.

The AIC has said that allowing products to be tested consistently against common criteria creates a level-playing field, and will mean that virtually all investment company shares will continue to be treated as ‘non-complex’.

Taping

MiFID II introduces an EU-wide harmonised requirement on firms to record telephone conversations and electronic communications on transactions. This will replace the FCA’s domestic taping regime that has been in place since 2009.

– The FCA will not apply a requirement for recording phone conversations and electronic communication (‘taping’) to all investment services and activities carried out in relation to corporate finance business.

– As proposed, it will remove the current partial exemption in its taping rules for discretionary investment managers, albeit making some modifications to the way the rule applies.

When making this decision, it noted there is a sufficient gap in the records to justify removing the exemption for discretionary investment managers.

The FCA said: “Where the exemption is used, we have found that it has been very difficult to access the relevant tapes from the sell-side counterparts, given that orders may be placed with multiple brokers across different venues.

“Additionally, our proposal will ensure the costs of supporting FCA supervision and investigation are met by those who are often the subject of our oversight and investigations, rather than counterparties.”

The FCA said its survey results suggest a large proportion of discretionary investment managers already make recordings, and would face only limited costs from the new taping rules, particularly larger firms.

Inducements

The FCA plans to consult again on amendments to its inducement rules to make it clear that advisory firms cannot continue to receive significant hospitality (or other inducements) from product providers and claim this is compatible with the rules on the grounds the relevant benefit is not in connection with services provided to individual clients.

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