The 500 page Discussion Paper for Mifid II released by Esma
this month is full of intrigue.
The text expands on the agreed text for Mifid II and its
sidekick Mifir and sets out the key points Esma is considering
in its drafting of the technical standards that will form the
basis of Mifid II’s implementation.
Deep within the text on page 233, point 101 reads: "DEA
clients should never be able to send an order to a trading
venue without the order passing through the pre-trade risk
controls of the investment firm".
So effectively this means that direct electronic access
provision must be effectively subject to two layers of
pre-trade risk controls, those at the investment firm and those
at the exchange.
Now for exchange members using 3rd party vendors or in-house
technology, this is not a problem as risk controls are always
set by the investment firm in this instance.
However, for exchange provided front ends, which are offered
by a few exchanges, risk controls are set at the exchange so
are not passing through the investment firms’ risk
controls before being sent to the exchange.
So one reading of this clause of the DP suggests that
exchange front ends as they are currently operating could be
banned in Europe.
It is important to note that this is by no means the final
text and these points will be clarified and amended before the
technical standards are published.
One potential argument to respond to this is that users of
exchange front ends are Trade Participants, which is a form of
non-clearing member and so the risk controls are clearing
controls of the GCM. However it is not clear in current the
text whether this will be treated any differently.
From a practical standpoint it’s important to
note that a Trade Participant absolves the requirements of the
GCM to perform some of its surveillance and monitoring
requirements but from a risk perspective it is no different to
any other DEA client.
However, it is clear throughout the DP that Esma is seeking
to implement two independent risk layers and exchange provided
platforms in their current form only operate a single risk