Brussels, 15 March 2019 | Europex, the Association of European Energy Exchanges, welcomes the opportunity to contribute to the present consultation on MiFID II / MiFIR experiences1. In the following, we would like to share our concerns on three main aspects: 1) pre-trade transparency requirements for commodity derivatives, 2) position limits for commodity derivatives and 3) the scope of the hedging exemption in relation to the previous two points.
1) Pre-trade transparency requirements for commodity derivatives (MiFIR, Arts. 8 & 9)
Europex members have long argued that the MiFIR pre-trade transparency regime in its present form is not fit for purpose and cannot be applied to trade registration facilities in commodity derivatives markets without compromising their vital role in supporting the hedging activity of commercial market participants and in mitigating wider systemic risks.
MiFIR Art. 8(1) requires trading venues to make public current bid and offer prices and the depth of trading interests at those prices which are advertised through their systems. Exchanges have no oversight of or information on applicable bid and offer prices throughout the negotiation process of pre-arranged trades. They are only informed of the actual agreed prices which means that under the current rules the exchanges would have to reject these trades unless they can benefit from a waiver or exemption: e.g., the Large in Scale (‘LIS’) waiver for transactions above a certain volume threshold and the Illiquid Instrument (‘IL’) waiver for transactions in instruments which are classified as illiquid, regardless of their volumes.
However, with respect to commodity derivatives, the methodology for calculating the LIS and IL thresholds has proven unworkable in practice. Calculations based on insufficiently granular sub-asset classes, besides arbitrarily selected and inappropriately calibrated parameters, result in disproportionately low LIS thresholds for highly liquid products and overly high thresholds for developing markets. Furthermore, the current methodology has led to a significant number of niche and nascent products being incorrectly (re-)classified as liquid, and thus becoming subject to significantly broader transparency requirements, which were previously reserved for developed markets.
As a consequence, the MiFIR pre-trade transparency regime has a materially adverse impact on commodity derivatives markets by:
- Preventing pre-negotiated trades to be submitted to exchanges, thereby limiting the ability of market participants to hedge their commercial exposures;
- Forcing the trading activity to move away to the OTC space, thereby limiting transparency and undermining the price discovery process as well as limiting the possibility of physical delivery to take place under the exchange / clearing house rules;
- Limiting the number of cleared trades and therefore increasing systemic risk and market concentration;
- Preventing nascent commodity derivatives markets from developing;
- Pushing small and medium sized members towards more bilateral (OTC) trading, ultimately resulting in more direct trading with the large(r) producers, often referred to as origination business.
This is in stark contrast to MiFID II/MiFIR’s policy objective as well as the 2009 G-20 Pittsburgh Commitments, i.e. higher transparency standards and the promotion of central clearing.
In order to solve the issue, Europex has made two alternative proposals for the revision of the Commission Delegated Regulation (EU) 2017/583 (RTS 2), which stipulates the methodology for calculating the thresholds. The first proposal suggests replacing the current methodology for calculating Large in Scale (LIS) and Illiquid Instrument (IL) waiver thresholds for commodity derivatives with a product-specific approach based on well-established practices of trading venues. The secondproposal suggests a ‘quick-fix’ approach, whereby the current thresholds for commodity derivatives are to be recalibrated in order to better reflect the actual market conditions.
To provide further details on the two proposals, we have attached two position papers: the first one of April 2018 gives an initial overview of the two alternative proposals for the revision of RTS 2 and the second one of June 2018 contains further technical details on both proposals. Please note that the suggested thresholds in the ‘quick fix’ approach have been based on the assumption that the liquidity assessment is conducted per financial instrument per venue.
1 Orginial title: Konsultation des Bundesministeriums der Finanzen zu Erfahrungen und möglichem Änderungsbedarf im Hinblick auf die EU-Finanzmarktrichtlinie (MiFID II) und die EU-Finanzmarktverordnung (MiFIR). See link.
Please see the full consultation response attached.