Reed Smith Client Alert

The European Commission (Commission) clarifies the meaning of the term “deal on own account” for the purposes of the Systematic Internaliser (SI) definition under MiFID II. This may have implications for the regulatory status of EU investment firms when they hedge their client orders with group companies.

A question of definition

SIs are investment firms that, on an “organised, frequent, systematic and substantial basis,” execute client orders on their own account outside a trading venue.1 The regulators are keen to ensure that SIs are not allowed to engage in matched principal trading on a regular basis outside a trading venue.

In its recently published Commission Delegated Regulation, the Commission clarifies that, for the purposes of the SI test only, the term “deal on own account” should be understood as a reference to the commitment of proprietary capital by the investment firm (i.e., a risk-taking market actor) and should not normally include riskless principal trading unless all of the following requirements apply:

  • the matching arrangements are entered into by the investment firm with group companies;
  • the group company counterparty is unable to provide quotes or other information on trading interests to third parties or to reject or amend such intra-group transactions; and
  • the transactions are carried out for the sole purpose of centralising the risk management of the group.

This will mean that EU investment firms that, for example, have hedging arrangements in place with group companies may still qualify as SIs even if they are acting solely in a riskless principal capacity. Such firms should therefore have arrangements in place to determine whether their riskless principal trading activity in relevant financial instruments exceeds the applicable thresholds under the “organised, frequent, systematic and substantial basis” SI test.