Mifid II – the far-reaching package of reforms from the European Union intended to shine a spotlight into all corners of financial markets – is shaking up Asia’s cosy, relationship-driven investment model.
The extraterritorial effect of the new regime has prompted a reappraisal of market practices across Asia. Local regulators are now devising their own packages of Mifid-style rules. But they are not attempting to recreate Mifid II in its entirety. Instead, authorities in the region are focusing on one key aspect of the European regime: transparency.
Mifid II has proved an onerous undertaking in Europe, and financial institutions have struggled to comply with all of its myriad components. Lawmakers in Asia have been able to watch and learn from hitches in the implementation of Europe’s new rules. By selecting parts of the regime and adapting them for their markets, local regulators have been able to take small but noticeable steps towards boosting market openness without placing an immediate and unnecessary burden on the firms they regulate.
The obvious starting point for Mifid II-like rules is best execution, the practice of ensuring that investment decisions are always made in the client’s best interest. Hong Kong and Singapore are taking a keen interest in this area.
Mifid II has also encouraged regulators – most notably in Japan – to look at imposing limits on high-frequency trading.
Following Europe’s lead, some Asian jurisdictions – most notably India and Singapore – have instructed their firms to adopt legal entity identifiers, or LEIs, a unique 20-digit alphanumerical code in a globally agreed, standard format. Under Mifid II, any firm trading with a European entity must have an LEI.
These measures may be just the beginning for Asian institutions. Mifid II’s extraterritorial reach has stoked a debate on what other changes are needed to achieve the transparency mandate. One example is research unbundling – strict rules that prevent banks from charging for investment and research in a single package. In Japan, Taiwan and South Korea, local rules have the opposite effect, preventing European banks from charging for the two services separately. This conflict has raised questions over whether these countries need to change their rules to bring them in line with Europe.
A recent paper from Japanese bank Nomura suggests such rule changes would eventually benefit investors by levelling the playing field with the EU, noting that pension funds in the US are waging a similar campaign for more transparency in research fees.
Another catalyst for change is equivalence decisions, whereby EU authorities determine that a foreign regime is of comparable quality, allowing firms in that jurisdiction to transact with European entities. This has forced Asia’s regulators to assess how their home market is structured, to make sure it follows market practice in the EU. Last year a handful of jurisdictions were granted equivalence for share trading. This year, the EU is weighing up swaps trading equivalence for Singapore and Hong Kong.
These developments will no doubt raise compliance costs and further stretch the regulatory and risk management resources at financial institutions. But firms in Asia should accept the change and push for more such reforms as they promote market transparency and efficiency.
That is important for a region that has borne the brunt of two major crises in the past two decades. The 2008 global financial crisis, which galvanised European regulators to introduce Mifid II, did burn Asian investors. However, even after 20 years the bigger shock in the region was the Asian financial crisis, which sent currencies and stock markets tumbling, saw governments fall and pushed millions back into poverty.
While the causes of the two crises were markedly different, the reason they both spiralled out of control has a lot to do with the opaqueness of markets and any attempt at reform is only a good thing.
Editing by Alex Krohn