Over the course of the last few months, we have heard from many installations across Europe that have received distressing emails and calls, either from brokers or national regulators informing them of the need to take action to comply with the new financial regulation MiFID “II” which comes into force in January 2018. We believe that in the large majority of cases the emails are misguided and some are intended to scare companies into making contact with the sender. The EU Emissions Trading Scheme (EU ETS) is stressful enough for installations covered by it, so in the interests of reducing that stress Redshaw Advisors have produced the following basic guide to how the new regulations apply to EU ETS installations.
In short: if you are an installation with compliance obligations in the EU ETS that is simply hedging your own requirements with the purchase of spot EUAs (like the vast majority of installations), either for this or future compliance years, you are automatically exempted from MiFID II as detailed below. This means that you need to take no action in relation to it, despite emails that may tell you the opposite. Nor will you have to change who you trade with. For compliance installations hedging their own requirements it really is business as usual.
The Markets in Financial Instruments Directive (MiFID) II is a revision of the original MiFID regulation that sought to increase transparency and remove cross-border barriers in the financial markets. MiFID II will extend this legislation to cover anyone trading Financial Instruments. Normally commodities trading in spot markets are not Financial Instruments but in response to fraud in the EU carbon market in 2009 and 2010 the European Commission decided that a spot settled EUA (or a CER used for EU ETS compliance purposes) should be defined as a Financial Instrument. Bizarrely this has happened some 8 years after the frauds concerned have been eradicated through other measures (reverse charging VAT and enhanced registry security measures).
How does this affect the carbon market?
MiFID II therefore brings the carbon market into focus as all carbon trades, including spot trades, become defined as Financial Instruments – technically meaning anyone trading carbon allowances must be regulated as an Investment Firm and subject to the enhanced requirements that the MiFID II regulations impose on such firms. However…
….there are several important MIFID II exemptions
The most relevant of which is Article 2 1(e) of the directive (scroll to approximately one fifth the way down this very long document) that specifically relates to installations covered by the EU ETS and reads as follows;
Article 2: This Directive shall not apply to:
(e) operators with compliance obligations under Directive 2003/87/EC who, when dealing in emission allowances, do not execute client orders and who do not provide any investment services or perform any investment activities other than dealing on own account, provided that those persons do not apply a high-frequency algorithmic trading technique;
So, in other words – if you are an EU ETS installation whose trading activity is for compliance purposes (and does not involve executing orders for others or algorithmic trading) then you are automatically exempt.
What do I need to do?
Nothing. Despite some reports to the contrary, the specific exemption applying to EU ETS installations means that more than 95% of installations do not need to do anything at all. Only the largest trading desks (the big utilities) or companies that have been set up to coordinate hedging activities for a group need to put more thought into how MiFID II applies to them. Additionally, despite statements you may hear to the opposite, there are no restrictions imposed on EU ETS installations on the firms with whom they can trade spot allowances.
However, if you deal with an Investment Firm then they may ask you to undergo enhanced due diligence (i.e. detailed Know Your Customer checks) and you may be asked for a Legal Entity Identifier (LEI) which must be applied for and paid for online. However, if you deal with a company that is not an Investment Firm then we understand that there is no requirement for either the enhanced due diligence or an LEI.
If you still have questions regarding your obligations under MiFID II, in the first instance please do not hesitate to get in touch with us at Redshaw Advisors. If, after reading the above, you are unsure whether you must take further action then you should consider contacting a suitably experienced law firm, we can also help you to find one of these if needed.
The article does not constitute legal advice and all readers should seek independent legal advice before relying on anything in the article.