News and Views MiFID II Special Edition 2016

Global Trustee and Fiduciary Services News and Views | MiFID II Special Edition 2016

When will a class or sub-class of derivatives

become subject to mandatory trading?

Unlike the mandatory trading obligation for

equities and equity-like instruments under Article

23 of MiFIR, derivatives are not automatically

subject to a mandatory trading requirement.

There are two possible routes for a class or

sub-class of derivatives to become subject to

mandatory trading — the so-called “bottom-up”

and “top-down” approaches. Once a class or sub-

class of derivatives has been declared subject to

mandatory trading, it will be included in a register

published and maintained by the European

Securities and Markets Authority (ESMA). The

the venues on which the relevant derivatives are

admitted to trading or are traded.

The top-down approach

ESMA is tasked under Article 32(4) of MiFIR

with monitoring those classes of derivatives

for which no CCP has been authorised to clear

under EMIR and which have also not been

declared subject to mandatory trading. If

determined necessary, ESMA can dictate that

such classes or sub-classes of derivatives should

be subject to mandatory trading. Before it could

use its powers in this way, however, ESMA is

required to conduct a public consultation and

would need to notify the Commission.

The bottom-up approach

A number of tests are applied to determine

whether a class or sub-class of derivatives should

be made subject to the mandatory trading

obligation. The initial question is whether the

relevant class or sub-class has been made subject

to the clearing obligation under EMIR. If not,

that is the end of the assessment. The class or

sub-class will not be subject to mandatory trading

under the bottom-up approach, albeit the top-

down approach would still be available to ESMA.

Assuming the class or sub-class of derivatives

is subject to mandatory clearing under EMIR,

however, two further tests are applied to determine

whether it is appropriate for transactions in that

class or sub-class to be restricted to trading venues

only: the venue test and the liquidity test.

The venue test

This requires an assessment of whether the

relevant class or sub-class of derivatives has

been admitted to trading on or traded on a RM,

MTF, OTF or equivalent third country market.

If the class or sub-class of derivatives fails the

venue test, then there is no need to consider the

liquidity test. The rationale for this is obvious: if

there is no venue on which a particular class or

sub-class of derivatives can currently be traded,

then a mandatory requirement to trade such

class or sub-class would be inappropriate.

MIFID II: KEY ISSUES FOR ASSET

MANAGERSCONCERNINGMANDATORY

TRADING OF DERIVATIVES

The introduction of a so-called mandatory trading obligation for certain

derivative contracts is a significant new requirement under the Markets in

Financial Instruments Regulation (Regulation 600/2014) (MiFIR). In particular,

Article 28 imposes an obligation on a wide range of counterparties, including

asset managers, to trade certain derivative contracts only on specified

trading venues such as regulated markets (RMs), multilateral trading facilities

(MTFs) and organised trading facilities (OTFs), or an equivalent third country

market. The mandatory trading obligation complements the existing

mandatory clearing obligation introduced by the European Regulation on

OTC derivative transactions, central counterparties and trade repositories

(Regulation 648/2012) (EMIR) and implements the G20 commitments from

2009 to trade all standardised derivative contracts on trading venues.