MiFID II Update - RTS 20 and 21

As many of you will know on the 1^st of December the European Commission published the long awaited revised drafts of regulatory technical standards 20 and 21 which correspond to provisions for the ancillary activity exemption in the MiFID II legislation and the new regime of position limits for commodity derivatives in the same legislation. We are going to talk very briefly to a few of the highlights in these revised draft regulatory technical standards. Turning first to RTS 20, the ancillary activity exemption is particularly important for commercial market participants that use commodity derivatives markets, indeed who also use emission and derivative markets referring to emission allowances in the European Union.

Persons will only be able to engage in dealing on own account in such instruments in providing services to the customers and suppliers of their main business in those instruments if they are able to use the ancillary activity exemption. Unlike previous legislation the revised ancillary exemption is restricted. There are certain persons who will be excluded from using the exemption and even for those who are eligible they must be able to demonstrate that their activity is both ancillary to their main business when considered on a group basis and indeed is ancillary to the market, a measure of which we expect will be provided by the European Union Securities and Markets Authority in due course.

A few early observations about the revised draft RTS 20. We see no changes to the scope of trading activity in the Union that will be subject to these provisions and it is likely to include contracts executed on third country markets and platforms to which an EU person is party.

As expected the European Commission has included a new alternative test for determining whether or not your so-called non-privileged activity is ancillary to your main business. This is on the basis of a regulatory capital calculation of your non-privileged trading activity in the relevant instruments measured against your capital employed in the main business on a group basis. The latter, or if you will the denominator, will be calculated on the basis of total assets less current debt. For persons whose non-privileged trading activity measured on that basis constitutes less than 10 per cent of capital employed they will be eligible to use or they will at least pass the first test within the exemption and then they must go and compare their trading activity to themarket. There are a few notable changes to what we had expected as regards that test and I suppose the perhaps most challenging issue for market participants using this exemption is that there is effectively no phase-in. Persons will be required to run these calculations under trading activity going back to the 1^st of January 2015.

Turning to RTS 21. This is in fact perhaps the reason why these early Christmas presents have been so delayed in process. There are some notable changes around the position limits regime. Some of the more contentious provisions are unchanged but what persons reviewing RTS 21 will note is that there are new, somewhat more strict rules, for commodity derivative contracts the underlying of which is to quote ‘food intended for human consumption’. For those contracts there will be a lower baseline that will be set in law on the basis of which national competent authorities will then have some discretion to be able to set higher or lower limits. The range for those food commodity derivative contracts will now be between 2.5 and up to no more than 30 per cent. We have seen some concessions in the revised RTS 21 regarding illiquid contracts which may, subject to certain open interest measures, benefit from a position limit up to 40 per cent of deliverable supply or open interest. Otherwise the main headline in RTS 21 is that the Commission has tipped its hat in the direction of some of the opposition voiced by Members of the European Parliament as to whether or not the position limits were sufficiently strict.

A quick note on application. Both the RTS 20 and 21 provisions apply with the rest of MiFID II provisions from the 3^rd of January 2018. However it is notable RTS 21, mindful that national competition authorities have to set position limits and then they expect market participants to have means to comply with those position limits, will apply (assuming that it is adopted) from the 3^rd of January of next year. To that end as you know technical regulatory standards are subject to scrutiny by both the European Parliament and the European Union Council of Ministers. We at Norton Rose Fulbright expect that one or both institutions will probably look to short circuit what is generally a three month process.

To learn more about these and what it means for your business contact us at Norton Rose Fulbright.