MiFID II (Markets in Financial Instruments Directive II)

What it is

The Markets in Financial Instruments Directive II (MiFID II) governs how investment services are provided in the EU. Together with the Markets in Financial Instruments Regulation (MiFIR), it has applied since 3 January 2018, replacing the first MiFID of 2007.

Its main building blocks are:

• Authorisation and passporting of investment firms across the EU.
• Organisational requirements: compliance function, risk management, record keeping, recording of telephone calls and electronic communications.
• Investor protection: client classification (retail, professional, eligible counterparty), suitability and appropriateness tests, information on costs and charges, best execution, limits on inducements, product governance.
• Market structure: rules for regulated markets, multilateral and organised trading facilities, systematic internalisers and algorithmic trading.
• Commodity derivatives position limits and reporting.

Detailed rules sit in delegated regulations, notably Delegated Regulation (EU) 2017/565, regulatory technical standards and ESMA guidelines and Q&As.

Why it matters

MiFID II defines what a firm must do every time it advises a client, manages a portfolio, receives an order or designs a product. It is also the legal base for client money protection, conflicts management and staff knowledge and competence. National authorities enforce it, so local supervisory practice matters, but the rule text is common across the single market.

Worked example

Illustrative numbers.

A retail client invests 50,000 euro through an advised service in a fund with ongoing charges of 1.2% a year, an entry fee of 1% and an advisory fee of 0.5% a year.

Before the sale the firm must show total costs in euro and percent. Year one: entry 500 + ongoing 600 + advice 250 = 1,350 euro, or 2.7%. It must also show the cumulative effect of costs on return. After the sale it sends a suitability report explaining why the fund fits the client’s objectives, risk tolerance and capacity for loss, and an annual ex-post cost statement.

Who uses it

• Compliance officers interpret the rules, write policies and run monitoring.
• Conduct risk analysts test outcomes such as suitability and cost disclosure quality.
• Private banking analysts prepare suitability assessments and client documentation.
• Investment product specialists apply product governance and target market rules.
• Markets sales analysts handle client categorisation, best execution and recorded communications.
• Trade and transaction reporting analysts deliver the MiFIR reports linked to MiFID business.

Common confusions

• MiFID II is a directive transposed into national law. MiFIR is a regulation that applies directly, covering transparency and transaction reporting.
• Suitability applies to advice and portfolio management; appropriateness applies to other services involving complex products.
• Professional clients still receive many protections. Eligible counterparties receive the fewest.
• The Retail Investment Strategy amends MiFID II rules on inducements and value for money; its final shape and dates depend on the adopted text.