FCA Director of Markets David Lawson speaks out as European trading hangs in the balance


With the passing of this year’s MiFID II conference, held at London’s ExCel complex on September 18, a vast array of subjects relating to the future of trading across continental Europe and the United Kingdom were covered by the Financial Conduct Authority’s Director of Markets David Lawton.

Mr. Lawton spoke in detail with regard to the many considerations which will make their presence felt among European electronic trading companies, executing venues and technology providers which handle order flow, pre and post-trade processing, and connectivity.

In essence, the entire landscape will change, with Mr. Lawson expressing his perspective on the impact, whether positive or negative, that the new rulings will have on the entire industry, and the progression of the implementation of the rulings.

Earlier this year the European Union, after two and a bit years of vigorous, and sometimes difficult negotiation, reached agreement on the level 1 text of MiFID II. The legislation provides a wide ranging package of important reforms covering both retail and wholesale investment markets, with new obligations for a range of firms providing investment services.

Although the European Commission’s financial regulatory reforms follow those made in the United States, with similar infrastructural requirements being set forth, the method of discussion between industry participants and government authorities differs somewhat. In North America, the Senate conducted a series of hearings and panels, involving senior industry figures, federal government lawyers and regulators in order to draft the new rulings under the Dodd-Frank Act into federal law in order to be maintained by the CFTC and SEC accordingly.

In Europe, discussion papers have been issued, no less than 800 of such documents during this summer alone, as well as the European Securities and Markets Authority (ESMA) gaining direction from the European Commission, and a conference is held in place of the transatlantic Senate hearings.

Mr. Lawton covered many important topics, one of which was the impending affectation of High Frequency Trading and use of algorithms, concentrating on micro-structural issues.

“Computerised trading – both widely used algorithmic trading and more specialist high-frequency trading (HFT) – will be given enhanced scrutiny by European regulators. New rules will tackle a range of concerns about market integrity, protection of ordinary investors and prevention of market abuse – what has been referred to by the European Commission as the toughest package of messages in the world to address HFT” stated Mr. Lawton.

“Key components of the regime to regulate this space include direct regulation of HFT firms, subjecting market making strategies to market making obligations, testing of algorithms before their execution and formalisation of the ESMA automated trading guidelines” he continued.

Mr. Lawton majored on infrastructural requirements within HFT, detailing that “Some market structural changes will also make markets safer and fairer, such as requirements for market circuit breakers, standards on ‘tick sizes’ and synchronisation of exchange clocks to allow better monitoring, detection and prosecution of abuse. While the framework is set by level 1, we have to now develop a balanced regime that doesn’t throw our markets back into the technological dark-ages, but ensures they are fair and safe for all users in the future.”

The FCA has recently subjected entire sections of the FX industry to criticism on the basis that it doubts the ‘best execution’ practices of many firms. As far as future practice is concerned once the MiFID II rules are fully implemented, Mr. Lawton stated that “For achieving best execution, the European Commission has made a number of provisions designed to help improve firms’ best execution policies, enhance disclosure of order routing behaviour, and enable better client scrutiny of execution quality through the provision of more standardised data. Some significant challenges remain at level 2 on developing metrics for execution quality which are appropriate for a very diverse range of financial instruments and market models in the absence of a consolidated tape.”

He concluded by explaining that “As with other areas of MiFID, we remain conscious that more disclosure and more transparency is not a panacea – we need to get the balance right and provide market participants with data that they both want and need. We welcome a debate about the detail of the new rules and how firms might implement this in practice in our afternoon break-out session.”

Mr. Lawton progressed his discussion in the direction of dealing commission, dubbing it a “hot-button topic” across the industry. The new rulings will remove incentives on asset manageers that could influence their decisions to trade against the interests of their clients.

“Indeed, there are some significant questions that must be answered. But what lies in the balance? What are the consequences of getting things wrong? Well, just to put some numbers around the markets we are talking about, between March 2013 and March 2014, €19.2 trillion of equity market activity took place on European exchanges and MTFs” confirmed Mr. Lawton.

“Among major EU country issuers of debt securities at September 2013, there were amounts outstanding totalling $25.5 trillion. As of the end of June 2013, there was $621.5 trillion of notional amount outstanding in global OTC derivative markets” he stated.

“We want to ensure that we’ve considered the consequences of all proposals for all stakeholders – the markets, firms, trading venues and, most importantly, investors and end-users – using the best research and industry data that is available.”

“However, we know that some of the fundamental costs of missing the mark include impacts on the level of trading in the wholesale market, the take up and selection of suitable investment products in retail markets, levels of liquidity, volatility, and the amount of cross-border trading. All of these may have knock-on effects for the ‘real economy’ that markets ultimately serve” is Mr. Lawton’s perspective.

As far as the protection of retail investors is concerned, Mr. Lawton detailed the number of provisions which MiFID II contains which learn the lessons from MiFID I and the rules implemented in different EU Member States to enhance retail investor protection.

This includes revised conduct of business rules, particularly addressing inducements and suitability requirements, new requirements around product governance and disclosure of costs and charges to investors when purchasing financial instruments and services, and a number of organisational requirements which involve aspects such as telephone taping, remuneration of staff and conflicts management.

In conclusion, Mr. Lawton concurred that MiFID II is a vast project for regulators and industry participants alike and that full implementation will be a major exercise.

“To use a metaphor, we have jumped the first hurdle by passing the primary legislation, but there is a lot more of the race to go. Although the finishing line looks to be still in the distance, 2017 will come round quickly and there is plenty of hard work to be done before we all dip at the finishing flag” he stated.

“The thoughts I want to leave you with are that firstly there are a range of issues that still need resolving in MiFID II and now is the time for us all collectively to put our heads together to find answers. It is important that stakeholders remain engaged in the policy-making process, especially given that we can expect a second large consultation from ESMA at the end of the year.”

“Second, firms cannot hold back on developing their implementation plans until all the details are available. Efforts are required now, and firms must make sure they understand our expectations and are planning towards January 2017, and third, the FCA recognises the challenges for industry and will be on hand to help. We will do our best to explain the new requirements, what is required of you and set out our expectations clearly.”

To read the full transcript, click here.

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FCA Director of Markets David Lawson speaks out as European trading hangs in the balance

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