EU Equity pre- and post-trade transparency regulation (LBF vol. 21) 2021/5.II.4.3.2:5.II.4.3.2 Interpretation 2: new provisions under MiFID II – Price formation as an element of the MTF-definition

EU Equity pre- and post-trade transparency regulation (LBF vol. 21) 2021/5.II.4.3.2

5.II.4.3.2 Interpretation 2: new provisions under MiFID II – Price formation as an element of the MTF-definition

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Another interpretation is possible as well. This is because it is debatable whether the case of the European Court is still relevant under MiFID II. In contrast to MiFID I, MiFID II introduces the explicit requirement that MTFs have ‘at least three materially active members or users, each having the opportunity to interact with all the others in respect to price formation’.1MiFID II also makes explicit that a ‘multilateral system’ is ‘any system or facility in which multiple third-party buying and selling trading interests in financial instruments are able to interact in the system’ (emphasis added).2MiFID II adds that the definition of a ‘multilateral system’ should exclude bilateral systems where an investment firm enters into every trade on own account, even as a riskless counterparty interposed between the buyer and seller.3

The explicit reference of MiFID II to the opportunity to interact in the system, respectively to interact with all the others in respect to price formation, makes it likely that price formation is part of the MTF-definition under MiFID II.4 ESMA guidance can be used to support this interpretation. ESMA noted when trading is conducted on a multilateral basis in the context of the OTF:

‘(i)nteraction with a view to trading in a financial instrument is conducted in such a way that a trading interest in the system can potentially interact with other opposite trading interests. As OTFs are required to ‘have at least three materially active members or users, each having the opportunity to interact with all the others in respect to price formation’ (Article 18(7) of MiFID II), an OTF user’s trading interests can potentially interact with those of at least two other users (…)’.5

MiFID II also requires MTFs – in addition to OTFs – ‘to have at least three materially active members or users, each having the opportunity to interact with all the others in respect to price formation’.6 Given the similar MiFID II requirement for MTFs and OTFs, it seems likely that the ESMA guidance for OTFs also applies in relation to MTFs. The result would be a different interpretation than the decision of the European Court, that is – price formation is relevant for determining whether or not trading is conducted on a multilateral basis.

Following this interpretation, MiFID II would require an internal matching system in equity instruments to be authorised as an MTF where: (a) at least three materially active members or users of the internal matching system (b) would have the opportunity to interact with all the others in respect to price formation. Bilateral systems where an investment firm enters into every trade on own account are excluded from the meaning of ‘on a multilateral basis’.7 Under this intepretion, MiFID II does not require internal systems executing client orders in equity instruments without price formation (e.g. investment giros)8 to authorise as an MTF. The reason is that the MiFID II element of ‘on a multilateral basis’ would not be satisfied.9

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