MiFID II will be implemented into UK law on 3 January 2018 and will replace Directive 2004/39/EC (MiFID I). MiFID II aims to enhance the efficiency and integrity of the financial markets across the European Union and we have prepared a suite of briefings on key areas of change. This briefing focuses on the proposed product governance rules set out in the FCA's third MiFID II implementation consultation paper (CP16/29) and its impact on firms.
MiFID II is made up of two parts, the MiFID II directive (2014/65/EU) and the MiFIR regulation (2014/600/EU), which together are referred to as MiFID II in this briefing.
MiFID II introduces significant product governance rules for the manufacture and distribution of products and services (including discretionary investment managers).
While MiFID I did not specifically address product governance issues, the FCA provided guidance on these matters and in the "Responsibilities of Providers and Distributors for the Fair Treatment of Customers" (RPPD) based on what is required as a result of the Principles for Business Sourcebook (PRIN) and the detailed rules. The RPPD guidance is aimed at all regulated firms who provide products and services to retail clients. "Providers" when used in RPPD covers portfolio managers who offer investment services as well as more traditional product developers such as firms who develop and/or offer life insurance or investment products, for example. "Distributors" when used in the RPPD includes financial advisers, as well as appointed representatives, banks and others involved in the supply chain bringing the product to the customer. As a result many firms will already be familiar with product governance provisions broadly similar to those contained in MiFID II, although there are significant differences.
How is the FCA implementing MiFID II product governance revisions?
As set out in CP 16/29, the FCA will implement MiFID II requirements as rules for MiFID firms, MiFID Article 3 exempt firms, branches of third-country firms, and firms that manufacture structured deposits, and as guidance for other regulated firms. However, for third country firms, the MiFID II product governance rules will only apply to any product manufactured and distributed from a branch, not products developed by the parent entity and marketed solely in the home state.
In this table, we set out a summary of the key changes that the MiFID II regime will bring to product governance provisions. One point to note is that MiFID II speaks about "manufacturers" and "distributors" whereas the current regime refers to "providers" and "distributors". In the table we align the "providers" with "manufacturers" for ease of reference.
Implications for firms
While there is a certain amount of overlap between the current FCA guidance and the incoming MiFID II rules, there are significant differences. At a fundamental level, the current regime is mostly guidance and focuses on what firms should do. The incoming provisions include much more prescription, including rules which firms must adhere to. For manufacturers, the inclusion of a market integrity element to their conflict of interest obligations is a material development. For distributors, they will have a greater breadth of responsibility under the new regime in identifying the target market and ensuring that products and services they distribute comply with all applicable FCA rules. Distributors will also be responsible for providing manufacturers with more information regarding the product or service they distribute.
Where firms collaborate in the development of products it is clear that there will need to be open communication and teamwork in monitoring the product throughout its lifecycle. The design of an effective agreement to share their responsibilities will take time and thorough consideration. Unsurprisingly, it is likely that this will result in a greater workload for compliance teams in both manufacturers and distributors.
The level of work involved in implementing the MiFID II changes will naturally vary from firm to firm and, as the table in the Annexure shows, firms which have closely integrated the FCA's current guidance will be at an advantage. CP16/29 is open for comment regarding these provisions until 4 January 2017.
We update our clients and contacts on MiFID II and other regulatory developments through our briefings and seminars. If you would like to be added to our seminar invitation list please email firstname.lastname@example.org
If you require further information on anything covered in this briefing please contact Grania Baird (email@example.com; +44(0)20 375 7443) Fiona Lowrie (firstname.lastname@example.org; +44(0)20 375 7232), or your usual contact at the firm on 020 3375 7000. Further information can also be found on the Commercial and Regulatory page on our website.
This publication is a general summary of the law. It should not replace legal advice tailored to your specific circumstances.
© Farrer & Co LLP, December 2016