Hong Kong funds and brokers could take a hit from new European rules on how they execute and report their trades.


The second Markets in Financial Instruments Directive (MiFID II) took effect in Europe on Jan. 3. The new rules pose a regulatory threat to European financial service firms, such as banks and brokers, and the threat could extend to firms in Hong Kong, particularly in regards to the research they distribute and the distribution of the funds.

The rules are an update to the initial set of regulations launched by the European Securities and Markets Authority (ESMA) in 2007. MiFID II provides a standardized set of guidelines that dictate how banks execute and report trades on behalf of their clients, and how they are paid for.

Under the new rules, investment banks will have to charge their clients separately for executing trades on their behalf and providing equity research, in order to create transparency and prevent conflict of interest. Up until now, banks have typically bundled the two charges together.

The change would make asset managers  more selective on what research they would purchase since they will either cover the research costs themselves, or pass the costs on to their end clients.

While the impact of the unbundling of broker fees is uncertain, a report released Jan. 15 by rating agency Moody’s suggested there is little doubt that the new rules are credit negative for the asset management industry.

“The introduction of MiFID II will put pressure on asset managers’ profits by lowering their effective fee rate and increasing their costs,” said Marina Cremonese, a Vice President and Senior Analyst at Moody’s. “However, cost saving initiatives, new investment solutions and M&A will likely offset some of the negative effects.”

The improved cost transparency expected to result from the rules, as well as a ban on paying commissions to financial advisers, will push down industry fees and put industry profits under pressure, the agency added.

Global spending on research will fall by 25% to 30% in the next three or four years, according to an estimate by Quinlan & Associates, as buy side firms are likely to request less research if they have to pay for it separately.

“As clients will be less willing to pay for waterfront coverage from more than a handful of providers, we anticipate that the banks will start to make cuts and focus their research on sectors or geographies where they can have a leading position,” said the company’s chief executive Benjamin Quinlan. “I feel many of the banks are in for a shock come 2018.”

You too, Asia

While European financial services firms are the obvious affected entities, Asian brokers and asset managers would also have to operate under MiFID II if their services involve trading in European securities, or when they do business with European clients and counterparties.

“The rules are not specifically intended to be extraterritorial – European regulators are bringing in new rules for European companies – but they will still have an impact (on some Asian firms),” said Keith Pogson, senior partner for financial services in Asia Pacific at the London-based accounting firm EY.

“The large international banks and asset managers have MiFID II implementation programmes including Asia that they have been putting into place over the past 18 months or so,” said Pogson. “Firms that are very focused on the region, say most Chinese brokers that primarily trade Chinese securities for Chinese clients, will probably not find it worth their while to trade European assets, so it will be the companies in the middle that will have greater difficulties.”

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