4.III.1.2.1 Level 1 text: main aspects of the definition

The Commission made the first steps towards a SI-definition during the ISD review. The Commission signaled risks of ‘off-exchange trading’ under the ISD, that is – investment firms operating outside RMs. In order to mitigate these risks the Commission, among other things, proposed to introduce the concept of ‘systematic internalisation’.1 The Commission distinguished between incidental and systematic internalisation, noting that only the latter impacted price formation. No explicit definition for systematic internalisation was proposed. The Commission did note that systematic internalisation related to investment firms with (a) a large client base and (b) high volumes of order flow of which more than 10 percent was internalised.2 The Commission interpreted the concept of ‘internalisation’ in a broad sense. The Commission’s interpretation also included the situation where an investment firm matched two opposing client orders (agency crossing).3

The perspective of the Commission contrasted with the final MiFID I-definition of SIs. The final MiFID I-text used the term internalisation in a more narrow sense, being (i) the execution of client orders by (ii) trading on own account. The Commission raised the concern that, in the absence of pre-trade transparency requirements for ‘SIs’ informative limit orders (containing pricing information) would not be displayed to the market. After several changes to the concept, the Commission proposed no SI-definition.4 Instead, the Commission proposed a distinct pre-trade transparency regime for ‘investment firms authorised to deal on own account’.5 The proposal of the Commission was therewith quite broad. The proposal excluded the execution of client orders from the scope of the proposed pre-trade transparency regime.

The European Parliament disagreed with the Commission’s proposal. The European Parliament wanted to protect investment firms trading on own account against the risks of pre-trade transparency publication (position risks). The European Parliament suggested to limit the MiFID I pre-trade transparency regime to ‘investment firms which practice systematic internalisation in shares’ (emphasis writer).6 The term ‘internalisation’ was used in a broad sense. The term internalization included execution of client orders on own account, as well as the matching of opposing client orders (agency crossing).7

The Council limited the meaning of the term ‘internalisation’ compared to the European Parliament’s interpretation. The Council used a narrow definition of ‘internalisation’, removing agency crossing from its scope. The Council defined a SI as an investment firm which on ‘organised, frequent, regular, and systematic basis dealt on its own account by executing client orders outside an RM or an MTF’.8

The position of the Council was almost identical to the final level 1 provisions of MiFID I. MiFID I defined a SI as an investment firm which on organised, frequent, and systematic basis dealt on its own account by executing client orders outside an RM or an MTF. The final text was ‘almost identical’, since it did not refer to the term ‘regular’ as proposed by the Council.