According to a recent report published by financial technology and data firm IHS Markit and consulting firm Expand, the European Union’s new MiFID II regulations are expected to cost the financial services industry $2.1 bln in 2017 in one time implementation costs.
The new MiFID II regulation is a sweeping ruleset covering complex areas such as derivatives trading and clearing, algorithmic and high frequency trading, market transparency, and research unbundling. Consequently, implementing these new rules will increase financial market participants’ technology, compliance, and administrative costs on both sides of the Atlantic.
According to the new report, the top 40 global investment banks are expected to spend in excess of $1.0 bln in 2017 on their new systems primary to improve trade reporting and transparency, as mandated by MiFID II’s new requirements.
In addition, the top 400 global asset management companies are expected to spend more than $1 billion in 2017 to adopt systems and processes for MiFID II compliance. The bulk of the buy-side’s new technology will be to meet the investor protection requirements of the new regulation.
According to estimates made by the European Commission in 2014, ongoing costs to maintain the new MiFID II requirements will run between €312 and €586 million ($347 million – $652 million) per year. However, the EU has had a tendency to underestimate the costs of its new regulations as was evident with MiFID I which came into force in 2007.
Of course, the true cost of MiFID II including indirect costs may prove considerably higher than the direct compliance costs as estimated by Markit or the EC. Many investment banks we have spoken with estimate that trade execution costs are likely to rise in an unbundled environment as asset managers will be forced to pay for the actual resources required to supply various types of execution services.
An additional unintended cost that some market participants have mentioned is the tax consequence of unbundling research from trading. Historically, asset managers were not required to pay sale tax or VAT for research that was bundled with trading. However, it is quite possible that asset managers could be subject to increased taxes on the research they consume due to unbundling.
It would not be surprising to us if the costs to implement and maintain MiFID II don’t run higher than $2.1 bln in 2017, and an additional $1.0 bln per year thereafter to maintain the new systems and processes imposed by the new regulations.
The biggest question related to this issue is who will ultimately shoulder the burden of these new costs – the buy-side or their sell-side partners. While it is likely that the buy-side will be forced to pay for many of the new systems and staff required to meet MiFID II’s new research unbundling rules, the sell-side is likely to have to foot much of the bill for the changes needed to meet the new derivatives trading and clearing, algorithmic trading, and high frequency trading rules.
Of course, as is often the case with complex new regulations, it is likely that unforeseen costs could crop up that will dwarf many of the more obvious implementation and maintenance costs of MiFID II. The only thing we know for sure is that two of the obvious winners of these new regulations are technology providers and compliance consultants.