The chair of the European Securities and Markets Authority implied last month that the agreed one-year MiFID II implementation postponement to 2018 may not be enough and that further delays may be necessary.
Regulatory technical standards are still being defined and there is a lot of uncertainty as to what needs to be done to implement MiFID II. A few organisations, particularly smaller ones, have become complacent and have already started reducing their implementation efforts.
Do you really want to outsource a liability you will ultimately be held accountable for?
It would be a shame if that points to a wider industry trend, because this latest set of rules to regulate commodity trading has serious and complex operational implications that require an equally measured and well-planned technology response.
MiFID II consists of a directive, which must be implemented by each EU member state, and a regulation which is applied across the EU. As with the recently implemented EMIR and REMIT regimes for commodity trading, technical standards and other secondary legislation need to be drafted and adopted by the European Securities and Markets Authority before legislation can be implemented.
Although it is too soon to make major changes, the experience of EMIR in 2014 – beset by delays then rushed in with a 90-day final deadline – means steps to comply with MiFID II need to be taken now. Even with so much up in the air, there are things you can do to mitigate exposure to regulatory risk.
Smart technology investments can help by surfacing exposures in the trading portfolio and providing quick assurance that trades and related activities happening today are at least aligned with the current direction of travel for MiFID II compliance. This has already been shown through EMIR and REMIT, which compelled many companies to invest in or revisit their Commodity Trading and Risk Management systems. MiFID II could well necessitate another round of IT upgrades, particularly in the area of reporting to trade repositories.
While it is still too soon to make firm or detailed recommendations, beginning the due diligence process with vendors should begin now, if it isn’t already underway.
What can the energy sector do to prepare?
Despite the possibility of an extended deadline, there are alternatives in terms of what large energy consumers and financial services companies can do now to prepare for MiFID II. Managing the process by spreadsheet is not one of them. There are electronic reporting and data storage requirements involved in each set of regulations that will quickly overwhelm manual processes.
Outsourcing may be a solution, but it comes with its own costs and risks. There is the added overhead of an ongoing contract to manage, so how active you are in the energy trading arena will determine your breakpoints financially. But in the end, do you really want to outsource a liability you will ultimately be held accountable for should any errors or delays in compliance occur? A third party provider will most likely not be responsible for paying fines. Even if you could negotiate a contract that held them financially liable, what would an infraction mean to your brand reputation? The collateral cost of cleaning up a public relations nightmare could be devastating.
That leaves accepting higher energy prices by abandoning a hedging strategy altogether, or automating the process. After weighing the options, automation is the best business decision.
Automating regulatory processes requires a basic energy trading and risk management system, which is a comprehensive regulatory solution for commodity trading and corporate financial compliance. It is generally not a stand-alone application and needs to incorporate contract data, hedge accounting, revenue allocation, and the all important regulatory reporting requirements for your geographic markets.
In light of the evolving standards for EMIR and REMIT, you will want to choose a solution that allows you to upgrade and manage your regulatory compliance process quickly. Another qualifier to consider is the ability to install software on a captive system and maintain it internally, or purchase a software-as-a-service contract and maintain it virtually in the cloud. Implementing this option could affect your overall cost of ownership as you integrate the system into other areas of the business.
Direct connectivity to trade repositories should also be a core capability, including all required regulatory identifiers and formats. The system should be able to simplify the threshold monitoring for non-financial counterparties (e.g. energy intensive businesses operating a hedging strategy) and facilitate risk mitigation obligations, including EMIR’s requirement for periodic portfolio reconciliations.
Like political unrest and extreme weather, evolving regulations add risk to the energy value chain. Commodity traders need to prepare now for what they know is coming to avoid compliance problems and penalties. Investing in an automated solution is the best approach.
Jonathan English is Managing Director, EMEA & APAC at Allegro Development