The UK's Financial Conduct Authority is failing to force financial firms to comply with the European Union's Markets in Financial Instruments Directive. In doing so, it is damaging its reputation as an effective force.

The directive was meant to mark the most significant overhaul of the financial services industry in the past decade, but various problems have beset it since it came into effect on 3 January. Plagued by setbacks, the new rules arrived a year later than originally intended because of their complexity and only eleven of the 28 European Union (EU) member-states adopted MiFID II on time.

Why has this been the case, in view of the fact that the financial services industry was given seven years to prepare for MiFID II? We could no doubt debate this for a long time to come. Moreover, the problems associated with the directive’s implementation have led financial regulators to take a "softly, softly" approach to companies that are still not complying with the directive. This is, somewhat understandably, infuriating those companies that prepared in time.

At its most simplistic, MiFID II requires financial companies involved in a chain serving a private investor to provide the investor with details of all the costs associated with their services and/or products. It is a minefield of regulations that has made a world of difference to their participation in European financial markets. With as little as 72 hours' notice, firms may be required to produce complex reports in specified formats using data from disparate sources. Companies that have been found not to comply with MiFID II face fines of as much as €5 million, or 10% of global turnover, with the additional risk of reputational damage.

Despite this, nine months after the directive became active in the UK, research suggests that up to 40% of firms are not complying with the regulations and do not have adequate systems and processes in place to make themselves compliant in future. To make matters worse, the "softly, softly" approach of regulators is allowing those firms that are failing to comply to avoid punishment. So far this year, the Financial Conduct Authority has issued just £4.8 million in fines, hardly sending a clear and unambiguous message to the wealth management community that MiFID II will be enforced. In fact, the "softly, softly" approach is sending precisely the opposite message.

Such is the level of disaffection among those firms that are "MiFID II compliant" that an online wealth manager called SCM Direct, run by Alan and Gina Miller, made headlines this summer when it lodged an official complaint against the FCA with the Information Commission. The pair were complaining about the City watchdog’s failure to respond to a "freedom of information" request for details of the enforcement action it had so far taken against non-compliant firms.

SCM Direct had already warned the FCA about the failure of companies to comply with MiFID II. In February, it handed the regulator a study of 75 financial companies that managed more than £1.2 trillion of investors’ money. That study found that 100% of online wealth managers, 70% of DIY investment platforms and 78% of traditional wealth managers were still not providing their customers with information about the total costs and charges associated with their accounts. The FCA’s failure to take action against these firms is thought to be costing investors anywhere between £903 million and £3.3 billion annually.

The absence of regulatory action has also led to a general malaise among many wealth management firms that are struggling with their reporting obligations and with 'best execution.' There is already a great deal of dissatisfaction among financial firms with compliance software-as-a-service providers that appear to be providing deficient data points for instrument reference purposes (i.e. to help firms classify financial instruments) while managing data poorly and not checking things well enough for the purpose of 'controlling quality.' This has led some firms to question the need to spend money on deficient systems and processes to comply with MiFID II if the directive is unlikely to be enforced because of the FCA's disinclination to act and/or Brexit.

To counter the belief that it was dragging its heels, the FCA claimed  in August that it would begin “knocking on doors” and visiting firms at random to see if they were complying with MiFID II. This must certainly have sent some firms scrambling to conform in the hastiest possible way, hiring poor systems from market incumbents rather than looking thoroughly to find whatever suited them best. The FCA, however, seems not to have knocked on anyone's door yet. Again, this is leading to a great deal of resentment among firms. If MiFID is to be successful in making financial markets fairer and easier to inspect, the FCA must be seen to be taking action. If not, the European Securities and Markets Authority (ESMA), which has already fined Spain for its failure to comply with MiFID II, will surely step in.

Although 2018 has been a significant year for regulation, 2019 will mark one of the most considerable changes to the UK’s global position in recent history – its departure from the European Union. It is not impossible that the UK could withdraw from MiFID II or choose to implement “MiFID II-lite” in some or all areas.
 
This may perhaps explain the inaction of some firms - and, indeed, of the FCA - but HM Government is unlikely to withdraw completely from MiFID after Brexit. After all, the maintenance of a high degree of regulatory 'equivalence' would reassure globally-active product providers and investors alike that the City of London remains a well-supervised and attractive marketplace. Also, regardless of Brexit, MiFID II is operating now in the UK. Even in the unlikely event that the Government scales it back, the regulator ought to be obliging firms to comply now. Otherwise, investors will continue to lose money as a result of opaque commissions and charges.

* SteelEye, a compliance tech and data analysis firm whose software reports on transactions and keeps records, can be found at https://www.steel-eye.com