The European Commission last week confirmed plans to delay the implementation of MiFID II by one year to 3 January 2018. In a press release issued on 10 February 2016, the Commission cited the exceptional technical challenges faced by regulators and market participants including the need to collect data from about 300 trading venues on about 15 million financial instruments as the reason for the delay. However, it is also the case that the legislative process is several months behind schedule due to disagreements between regulators, politicians and industry groups on a number of key issues, several of which could have a bearing on the FFA market. Overall the delay to implementation can be seen as a positive for FFA market participants, postponing as it does any potential adverse impacts of increased regulation however limited.
Members may recall that the European Securities and Markets Authority (ESMA) submitted revised rules for implementing MiFID II – so-called Regulatory Technical Standards (RTS) – to the Commission last September. These included significant upward revisions to the ‘ancillary activity’ thresholds for determining whether a firm trading commodity derivatives (including FFAs) would need to be regulated as a financial firm. The Baltic Exchange, working with a number of its Members, had successfully lobbied ESMA to make these and other changes to the draft RTS which ESMA had published in December 2014. The result was that whereas under the initial draft many firms using FFAs to hedge freight exposure would have been captured by MiFID II, for example because their market share exceeded just 0.5% of total market volume, under the revised RTS no firm was likely to be captured on the basis of its FFA activity alone.
The Commission and EU Parliament were expected to have adopted final versions of the RTS by last December but it now looks as though this will not happen until March and then possibly only in phases with slight further delays likely before adoption of the RTS concerning the more contentious matters. These matters include whether ESMA went too far in raising the ‘ancillary activity’ thresholds referred to above (RTS 20) and the parameters to be used in calculating position limits for commodity derivatives (RTS 21). If political pressure does force ESMA to revise its approach to the ancillary activity tests again, it is thought that any final changes would be more likely to affect other commodity derivatives such as oil or grain, rather than freight, and it would be a surprise if changes to RTS 20 at this late stage were significant enough to impact firms on the basis of their FFA trading.
The situation in relation to position limits is less clear. The intention is to impose positon limits on speculative positions held by individual firms with regulated trading venues such as Baltex having an important potential role to play in monitoring these limits. ESMA’s latest proposal is that a national regulator such as the Financial Conduct Authority (FCA) would set position limits on commodity derivatives traded on regulated venues in its jurisdiction. These position limits would be set somewhere between 5% and 35% of deliverable supply or alternatively of open interest. In the case of FFAs, it is almost certain that open interest will be used as the basis of the calculation using two maturity buckets – a position limit on the front month and a separate one for the remaining maturities – with the level of the limit based on the liquidity and other characteristics of the market. The FCA will issue a Consultation Paper in the Summer covering this and other market related issues which will give the Baltic Exchange and other parties the opportunity to comment on the FCA’s plans and put forward their own proposals. In this context it has been interesting to note recent comments by the acting chief executive of the FCA, Tracey McDermott, indicating that the FCA does “not believe it is necessary, as MiFID II requires, to have position limits for every single one of the hundreds of commodity derivatives contracts traded in Europe.” It is hoped, given this view and the characteristics of the FFA market – particularly its relatively small size and the small number of firms actively trading FFAs – that the FCA will set positon limits for freight near the upper end of the permitted band.
by Paul Stuart-Smith
Chief Operating Officer
Baltic Exchange Derivatives Trading Limited