The Financial Times recently published an article on a topic that has not, to date, received a significant amount of attention in the press - the impact of a "no deal" Brexit on where firms can trade shares. This sounds like a very niche subject (and in some ways, it is) but it reminded me of the briefing on the topic that we wrote in December 2018. Since it's become the subject of discussion, I thought it worth summarising the key points.
What is the share trading obligation?
Broadly, the Markets in Financial Instruments Regulation (MiFIR) requires EEA investment firms to trade certain shares either on an EEA trading venue, systematic internaliser or on a non-EEA trading venue that the European Commission has declared equivalent. The shares that are subject to this requirement are shares that are admitted to trading on an EEA trading venue.
For example, if a share is admitted to trading on the Frankfurt Stock Exchange, a French investment firm could undertake trades in it on any EEA venue. However, the French firm could only trade that particular share on a non-EEA venue in certain circumstances - the easiest ground to rely on being that the so-called "third country trading venue" has been assessed as equivalent.
MiFIR does exclude from the obligation EEA share trading that is:
- non-systematic, ad hoc, irregular and infrequent; or
- carried out between eligible and/or professional counterparties and does not contribute to price discovery.
However, these grounds are extremely limited and fairly difficult to rely on.
The share trading obligation applies even if the share has its primary listing (and most of the liquidity) outside the EEA - that is, if the French firm in our example wants to trade in a share that has its primary listing in a non-EEA jurisdiction, and the share happens to also be listed or traded in the EEA, the French firm would have to use an EEA venue to trade in the share (unless the non-EEA venue were equivalent) even if it would have got a better price on the non-EEA venue.
Who does this obligation apply to?
The obligation applies to EEA sell-side firms (such as banks and broker dealers), as well as EEA buy-side firms (such as asset managers that are investment firms as well as UCITS management companies and alternative investment fund managers (AIFMs) that are authorised to provide MiFID investment services).
What's the impact of a "no deal" Brexit?
After a no deal Brexit, the UK will be a third country in the eyes of the EU (and vice versa for EU member states and the UK).
Consider the following example: a UK plc has a dual listing in Ireland and on the LSE’s main market. In the event of no deal Brexit, with no equivalence determination for the LSE, EEA investment firms and credit institutions will have to trade those shares on Euronext Dublin or another EEA trading venue even if there is very little liquidity compared to the LSE, unless they can safely conclude that the trading in the EEA is not systematic, regular or frequent.
This will clearly have an adverse impact on those issuers (regardless of whether these are UK, EEA or non-EEA companies) with a dual UK-EEA listing, or whose shares are traded on an EEA trading venue, as it will fragment their liquidity.
It will also have an adverse impact on the ability of EEA sell-side and buy-side firms to achieve best execution for their clients. If they are required to trade on an EEA trading venue which has lower liquidity than the UK trading venue where the issuer has its primary listing (or indeed other UK trading venues) then they are unlikely to be able to achieve the same quality of execution.
Given the onshoring of directly-applicable EU legislation, this could be an issue in the UK as well. If the UK does not declare EEA venues to be equivalent, UK investment firms and credit institutions will be required to trade on UK venues (or equivalent venues elsewhere in the world).
What's stopping an equivalence declaration?
In short: politics.
In principle, it should be relatively straightforward for the Commission to determine that UK trading venues are equivalent, given the legislative framework in the UK will be virtually identical to the EU framework.
In practice, equivalence decisions can be highly politicised. Despite having granted equivalence to venues in the US, Hong Kong and Australia, the EU decided to grant Swiss venues equivalence for only 12 months (which has since been extended by 6 more months). In a somewhat different context, the Commission has indicated conditional equivalence for a limited duration for UK CCPs and CSDs, which will enable EEA members to maintain access - again, even though the UK legislative framework will be effectively identical to that of the EU.
Equivalence determinations may be further complicated should HM Treasury decide not to deem EEA trading venues as equivalent, as it will have to do under the UK’s on-shored version of MiFIR.
This means that EEA investment firms and credit institutions are forced to trade on EEA trading venues even if the share has a primary listing outside the EEA and there is greater liquidity on the non-EEA trading venue unless that non-EEA venue has been declared equivalent. This may prevent an EEA firm from finding the best venue for execution.