Asia's private banking sector is one main area where the Markets in Financial Instruments Directive ("MiFID II") will see the biggest impact, said consultants.
MiFID II is a EU legislation which regulates investment intermediaries that provide services to clients whose transactions involve financial instruments such as shares, bonds, units in collective investment schemes and derivative in the euro-zone and EU venues where those instruments are traded.
A typical scenario that depicts how Asia's private banking sector will be affected is when, for instance, a customer of a Singaporean private bank wants to buy a stock listed on the Paris bourse.
"MiFID II is about trading on an infrastructure in the EU, a customer in the EU or an underlying product that is in the EU. In the example above, the bank is selling euro-zone shares to an Asian customer and so it is a MiFID II in scope transaction," said Keith Pogson, senior partner, financial services at EY in Hong Kong.
Asian Private Banks Selling to EU Customers
If Asia's private banks are selling products to customers in the EU, there are now detailed product governance rules they may have to comply with, said Simon McKnight, partner at Simmons & Simmons in Hong Kong.
"If an Asian private bank acting through [its] Asian offices sells a product through EU distributors, it may not be directly caught by MiFID II, but the distribution agreements it enters into with the EU distributors will likely impose the burden of compliance contractually on it. In the light of this, there is a lot of focus on distribution agreements and responsibilities," McKnight said.
Appropriate Customer Categorisation
One of the big issues that private banks in Asia have to deal with is whether they have categorised their customers appropriately, Pogson said. Financial institutions will be required to go through the customer profiles and ensure, where relevant, there is best execution.
"When they start to comply with MiFID II, the customer requirements aspect under MiFID II will kick in. Banks have to think about best execution for customers," he said.
LEI and ISIN
There are other requirements under MiFID II which investment firms and their customers have to fulfil. The legal entity identifier ("LEI") is one such requirement which every customer served by investment firms has to obtain before they are allowed to buy EU products or trade on EU platforms. LEI applies to all MIFID II-captured transactions but is more troublesome for individuals rather than large corporate entities, according to Pogson.
The main concern, however, lies in whether the legal entity identifier can be obtained before January 1, 2018, Pogson said. He expects many people will be waiting for their LEIs to be approved by the appropriate issuers.
"EU regulators have not worked out what to do if investors don't get an LEI. If they [EU regulators] say 'it's all right we will let them trade [without an LEI]', nobody will bother to get an LEI. EU regulators want to have as many people as possible to try and comply [with the requirement to have an LEI]," he said.
The same concern revolves around the need to obtain an international securities identification number (ISIN) for reporting purposes. Pogson said it is highly unlikely that the various regulators will be able to finalise their work on MiFID II and there are concerns that many transactors will not be able to obtain an ISIN by January 1, 2018, particularly when they relate to bilateral trades. ISIN is also a fairly new concept to some banking communities in Asia such as China.
"It is unclear at this time what will happen if you don't have an ISIN. Does that mean they can't trade?" he said.
Asia's private banks selling EU products or trading on EU venues on behalf of their customers will be required to meet certain reporting requirements. One of the issues private banks in Asia need to consider is whether they will carry out the reporting themselves or outsource it to a third-party service providers, Pogson said, adding that custodians may also take on the reporting task.
Reporting would also need to be customised to meet MiFID II reporting formats, according to Pogson. One of the potentially onerous consequences of MiFID II is the large number of additional data and data feeds that need to be collected. Banks including private banks and wealth managers would need to work out what data is missing as well as expand their databases.
"Increasing the size of databases will be a challenge and to build a larger database requires planning which can be quite complex," Pogson said.
Substantial Compliance Costs will Go into Setting up New Systems
One of the unintended consequences of MiFID II is the need to modify systems to comply with the EU regulation. A significant amount of compliance costs to comply with MiFID II - which according to some banks could be as high 80 percent – will go into setting up new systems and platforms to ensure they automatically comply with the relevant requirements, such as sending pricing information to aggregators, McKnight said.
"It is not just the exchanges, banks, brokers and insurance companies will have to do a lot of modifications to existing systems as well. It's a massive job. A lot of people have to put new systems in place," he said.