Annex to the ESMA's opinion decides whether any derivative contract concluded on third-country trading venue is covered by the EU position limits regime.
Another problem with MiFID II... To be honest, it could be expected the implementation of such comprehensive new framework involves some problems, but the scale of gaps identified so far in the new Directive is really striking.
This time it occurred that MiFID II (precisely its Article 57) does not provide any indications as to whether the third-country trading venues, i.e. the ones outside of the EU, should be covered by the EU position limits for the commodity derivatives.
Seems impossible? Not exactly, this fact has been actually admitted by the European Securities and Markets Authority (see ESMA's Opinion of 31 May 2017, Determining third-country trading venues for the purpose of position limits under MiFID II, ESMA70-156-112).
In parallel, the MiFID II Q&As have been updated, to cope with this problem (Questions and Answers, on MiFID II and MiFIR commodity derivatives topics, 31 May 2017, ESMA70-872942901-28)
It is mostly regrettable, such important issues are not included in the MiFID II Directive itself, or any level 2 legislation, but, at this stage, left practically to the discretion of law enforcement authorities.
Such a practice tends to lead to the erosion of the entire legal system, but, truly, at this stage it seems the only viable alternative.
What is the essence of the problem?
In order to assess whether contracts on the third-country trading venues should be counted towards the EU position limits regime it needs to be firstly determined whether they should be treated as on-venue or OTC contracts.
If the latter alternative applies, the consequent classification follows whether such a contract qualifies as an economically equivalent OTC contract in accordance with Article 6 of Commission Delegated Regulation (EU) 2017/591 of 1 December 2016 supplementing Directive 2014/65/EU of the European Parliament and of the Council with regard to regulatory technical standards for the application of position limits to commodity derivatives.
The above questions are not expressly answered by the MiFID II or by any RTS or ITS, but it is clear, the problem must be resolved unambiguously and quickly, what's equally important, uniformly, across different supervisory approaches of the all EU Member States' financial competent authorities.
Then, the approach and roadmap outlined by ESMA in that regard is as follows:
1. The EU positions limits only apply to contracts in commodity derivatives traded on EU trading venues and to OTC contracts economically equivalent to such contracts;
2. Secondly, contracts in commodity derivatives traded on a third-country facility, which is considered as a trading venue, should not be regarded as OTC and, consequently, that the positions resulting from trading those contracts should not count towards the EU position limit regime;
3. Whether or not positions held in commodity derivatives contracts traded on third-country venues that are economically equivalent (EE) to contracts traded on an EU trading venue, are to be considered as EEOTC for position limit and position reporting purposes under Article 58(2) of MiFID II depends on the characteristics of that third-country trading venue, only a third-country trading facility that meets all the following objective criteria should be considered as a trading venue for the purposes of the MiFID II position limit regime:
- it operates a multilateral system, i.e. a system or facility in which multiple third-party buying and selling interests in financial instruments are able to interact;
- it is subject to authorisation in accordance with the legal and supervisory framework of the third-country;
- it is subject to supervision and enforcement on an ongoing basis in accordance with the legal and supervisory framework of the third-country by a competent authority that is a full signatory to the IOSCO Multilateral Memorandum of Understanding concerning Consultation and Cooperation and the Exchange of Information (MMoU).
4. For the purposes of Article 57 of MiFID II, and in particular paragraph (4) thereof, commodity derivatives traded on third-country trading venues that meet the criteria considered above should not be considered as OTC trades;
5. ESMA will publish a list of trading venues that meet the criteria stated above. That list will published in an Annex to the ESMA's Opinion and will be updated on an ongoing basis;
6. Market participants holding positions on third country venue contracts, that may be considered EEOTC under Article 58(2) of MiFID II and Article 6 of Commission Delegated Regulation (EU) 2017/591 of 1 December 2016 supplementing Directive 2014/65/EU of the European Parliament and of the Council with regard to regulatory technical standards for the application of position limits to commodity derivatives, or considering trading such contracts, should contact their National Competent Authorities, and make them aware of those contracts;
7. The National Competent Authority will then get in touch with the third-country venue with a request for further information;
8. Based on the information provided, ESMA will determine whether the third-country trading venue meets the criteria set out in the ESMA Opinion;
9. If so, the respective third-country venue will be listed in an Annex to the Opinion;
10. Where a third-country trading venue appears in the annex to the Opinion, EE contracts traded on that venue will not be considered EEOTC for position limit and position reporting purposes;
11. EE contracts traded on any other third-country trading venue that does not appear in the Annex to the Opinion will be considered EEOTC;
12. ESMA is aware that it is important for market participants to have legal certainty as soon as possible on the treatment of their transactions in EE contracts on third-country trading venues for position limit and reporting purposes;
13. Whilst ESMA cannot commit to any set timeline for the assessment of the information received through the EU Member States National Competent Authorities, all notifications will be processed as expediently as possible;
14. Any identification of trading venues for the purposes of the consistent application of position limits provisions set out in MiFID II proposed by the said Opinion does not in any way prejudice an equivalence assessment performed by the European Commission under MiFID II/MiFIR4 and, in particular any equivalence assessment of third-country trading venues for the purposes of the trading obligation for shares and derivatives, in accordance with Article 25(4)(a)of MiFID II and Article 28(4) of MiFIR.
Quite an extensive and an elaborate procedure..., but, unfortunately, not envisioned in any EU legislative act.
The ESMA's efforts to cope with the problem are appreciable, but did anybody noticed the new system and hierarchy of the EU laws that is thereby created: (1) Directive, (2) Regulation, (3) Annex to the ESMA Opinion, etc.
Leaving aside the above abstract, theoretical deliberations, the commodity traders must cope with the consequences of the legal mess described.
The potential inclusion of the third-country trading venue in the Annex to the said ESMA's opinion, is important for aggregation of positions on such third-country venue, for the purposes of the EU position limits framework, as well as for netting possibilities.
It can be expected the list of relevant third-country trading venues will be updated frequently, and this will mean that the Directive itself and all secondary regulations do not matter so much for derivatives trading, but an Annex to the ESMA's opinion does.