ESMA final documentation regarding the regulatory transaction reporting. AMAFI and AFTI s comments on average price confirmation

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1 16 December 2016 ESMA final documentation regarding the regulatory transaction reporting AMAFI and AFTI s comments on average price confirmation Association française des marchés financiers (AMAFI) is the trade organisation working at national, European and international levels to represent financial market participants in France. It acts on behalf of credit institutions, investment firms and trading and post-trade infrastructures, regardless of where they operate or where their clients or counterparties are located. AMAFI s members operate for their own account or for clients in different segments, particularly organised and over-the-counter markets for equities, fixed-income products and derivatives, including commodities. Nearly one-third of members are subsidiaries or branches of non-french institutions. AFTI (French Association of Securities Professionals) is the leading Association in France and in the European Union representing the post-trade businesses. AFTI gathers more than 100 members active in the post-trade industry, mainly: custodians/depositaries, investment firms, market infrastructures, issuers. On 10 October 2016 ESMA published its final documentation regarding the regulatory transaction reporting - namely its Guidelines (ESMA/2016/1452) and its Final Report (ESMA/2016/1451). AMAFI and AFTI would like to point out the quality of the documents which are a very useful tool to achieve a common understanding of the rules related to these mechanisms within the industry and National Competent Authorities (NCA). Nevertheless, AMAFI and AFTI consider that on one particular point, namely the use of an average price by transmitting firms when the transaction is done under agency capacity, the ESMA guidelines should be amended in order to be consistent with the delegated regulation dated In our response 1 to ESMA s Consultation Paper on guidelines on transaction reporting, reference data, order record keeping & clock synchronization we have already pointed it out the fact that there was a need to take into account the real nature of the agency trading capacity. We therefore regret that ESMA has not included this consideration in its final documentation. Our understanding of ESMA guidelines We understand that ESMA links the use of an average price for confirmation by the executing firm to the transmitting firm in relation to the trading capacity of the former and gives the priority to the execution s level (the average price confirmation being seen as additional information). 1

2 The intermediary is required to provide confirmations of the actual executions to the client / Any average price confirmations that may be sent by the executing firm to its client are in addition to confirmations of the actual executions that the intermediary is required to send to its client. (Page 24 of the Final Report) Investment Firm Y confirms each of its market side executions to Investment Firm X This should take place when the executing broker is acting on an any other trading capacity or matched principal trading capacity (Guidelines page 143) Investment Firm Y confirms the completed transaction to Investment Firm X This should take place when the executing broker Y is acting in an own account trading capacity. (Guidelines page 148) In the guidelines (5.22: One order for one client executed in multiple transactions), ESMA establishes that only investment firms which are dealing on own account have the right to populate the Buyer identification code with a volume weighted average price. For investment firms dealing on a matched principal basis or on any other capacity basis (that is to say on agency capacity) ESMA states that even though the client wants an average price, the transaction reports have to reflect that every single market fill is immediately passed on to the client because the Investment Firm is dealing in a matched principal capacity (and any other capacity). Our analysis of ESMA guidelines AMAFI and AFTI totally disagree with ESMA interpretation on that point for the following reasons. It is not in line with level 2 provisions This interpretation is, in our view, not in line with the Article 59 of the Commission Delegated Regulation (version dated ) detailing the reporting obligations to the client in respect of execution of orders (other than for portfolio management). Indeed this article (i) allows investment firms to provide the client with an average price and (ii) without any restriction. Moreover the article gives the priority to the average price against the market prices - which are to be provided only if the client requests it according to Article 25(6) of Directive 2014/65/EU (Reporting obligations in respect of execution of orders other than for portfolio management) For the purposes of point (k) 2, where the order is executed in tranches, the investment firm may supply the client with information about the price of each tranche or the average price. Where the average price is provided, the investment firm shall supply the client with information about the price of each tranche upon request. It would have detrimental consequences ESMA guidelines (5.22: One order for one client executed in multiple transactions) provide us with a very simple example which includes only a client and an investment firm which trades the order and 2 (k) the unit price; 2

3 states that when not acting under the DEAL trading capacity, the investment firm has to report every single market fill since the latter is immediately passed on to the client. The reality of the market is much more complex, and in many cases the intermediation chain involves more than two entities with the possibility of aggregation of orders at some stages of the transmission chain. According to the RTS, any intermediary in the chain either (i) transmits all the data related to the client and thus is considered as executing the transaction or (ii) reports by its own and thus is considered as a transmitting firm. In the latter case, as stated in paragraphs and 5.3.3, the intermediary shall report under the trading capacity AOTC. Therefore all along the chain, there will be a requirement for a single order executed in several times on the market to be confirmed with the market granularity level. This will be the case until the end client. No need to say that the end client is not expecting to receive the financial instruments he purchased piece by piece with commissions applied to each transaction. Moreover the confirmation is the starting point for the post-trade process and the information contained in it (quantity, price, commission tax, net amount) will be the data used for the settlement. AMAFI and AFTI have carried out an analysis of one common situation: an investment firm providing the portfolio management service which sends an order to a firm which receives and transmits the order and allocates the execution received back to the accounts participating to the order on behalf of the client. The example attached to this document shows the consequences for firms which receive and transmit orders as well as for the end client when implementing the regulatory transaction reporting regime according to the Guidelines in the case the executing firm (namely the broker) does not act under the DEAL capacity. ESMA current proposal would have unexpected and/or counterproductive consequences: This could compel brokers to change the way they execute orders (from agency to own account) which is not acceptable. In no case regulatory transaction reporting considerations should drive the way brokers act on behalf of their clients. This could encourage entities which receive and transmit orders to no longer offer the possibility for aggregating orders which would be at the expense of investors because of the raising of the transaction costs it would imply. There again, authorized market practices should not be locked by the regulatory transaction reporting regime. This would move investment firms away from fair treatment of clients. This would lead to scenarios where correct reporting becomes mathematically impossible under current market practices. It is of course not possible to envisage a situation where brokers do not fully comply with ESMA guidelines by populating DEAL while acting on an agency basis. In a nutshell, the fact that investment firms could be deprived from carrying out compliant market practices for transaction reporting purposes is intolerable. Regarding the use of the INTC principle, as it should only be used in the circumstances set out in these Guidelines (page 84 of the Guidelines) and since the examples given using the INTC principle are always with several orders for several clients, we would welcome a clarification from ESMA that the INTC principle could be used also for the case one client / several orders. 3

4 It is contradictory with ESMA guidelines when several markets fill for several clients Paragraph which presents the situation where several markets fill for several clients does not make any difference between the various trading capacities. It means that the report allocation to clients is made at the average price even under an AOTC trading capacity. AMAFI and AFTI fully support this interpretation. Indeed, it would be technically very difficult to provide each client with information on every single market fill, since one market transaction concerns several clients. It is not in line with the way the market is functioning In AMAFI and AFTI response to ESMA s Consultation Paper on guidelines on transaction reporting, reference data, order record keeping & clock synchronization we have already alerted ESMA on this inconsistency by recalling that at least on the French market, executing firms act mostly under an agency capacity while confirming the client with an average price 3 as MIFID (and after MIFID 2) allows them to do so (please refer to our example for any explanation on how it works). This principle should be extended since for AMAFI and AFTI there is no reason to have a different regime and interpretation when the average price is provided to one single client or to several clients. The consequences of ESMA guidelines ESMA interpretation would oblige firms that receive and transmit orders without meeting transmission conditions (which will be the case for most transmitting investment firms in France) to multiply the number of transaction reports to their competent authority. According to the evaluation made by some members of AMAFI and AFTI, the number of reports would be multiplied by 10. In the same time, ESMA interpretation would compel executing firms to send a confirmation to the transmitting firm for each partial market execution (meaning including all the commissions, expenses charged ). The consequence will be higher implementation and running costs without any actual benefit for regulatory purposes. Our demand Given what it is explained above, AMAFI and AFTI consider that ESMA guidelines should be amended in order to recognize the capability for agency investment firms to confirm at an average price (and thus to be consistent with the level 2). It should be clearly stated that the transmitting firm could report at an average price if it has been confirmed at an average price. 3 For equities at least, there is a need to take into account the way client orders are executed in the French market. Actually it is based on agency trading with the use of a weighted-average trading price. This cannot be considered as trading in matched principal trading capacity (MTCH) and should be clarified in the definition of trading in an any other trading capacity (AOTC). 4

5 This could be done by changing the paragraph 5.22 (one order for one client executed in multiple transactions) with putting in place the same reporting system whatever the trading capacity is. Given the timeframe to implement the regulatory transaction reporting regime, the change of ESMA guidelines should be done as soon as possible. We understand that ESMA needs to be able to reconstitute the entire execution chain. Hence, allowing investment firms to report average price while the counterparty reports market fills may considerably challenge the reconstitution of the chain. However the assumption that transformation or restructuration of transactions only happens in a DEAL capacity is not in line with the way some markets work. In order to solve this issue, the use of the INTC could be widen to any case where there is a transformation / a restructuration of an executed order (in particular where there is one order / several market fills and where there is allocation on behalf of clients without successful transmission under Article 4). On the French market, agency executing firms that confirm at an average price are allowed to use a dedicated account compte de cours moyen (average price account) whom functioning fits perfectly the description of the INTC account. This will allow ESMA and NCAs to reconstitute the execution chain (with transaction reporting at different prices) and thus ease the detection of any market abuse. To summarize, this solution would reflect exactly what happens in the market rather than artificially reporting something that does not reflect the way the industry works. Indeed should a competent authority detect some bad behaviours from an end client and thus investigate it will be easier for the NCA to come to the end client with the exact image of what has been confirmed to him. 5