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ISD: Transparency rules still inadequate, says FBF

The European Commission on 19 November 2002 adopted draft legislation intended to replace the 1993 Investment Services Directive (ISD). The revision of the ISD is a matter of cardinal importance. Because the directive organises the regulatory architecture of Europe's financial markets, it defines not only the ground-rules for financial intermediaries but also the level of investor protection and the ways in which markets finance the corporate sector.

The French Banking Federation (FBF) supports ISD reform, which will open competition between regulated markets and new order execution systems, chiefly :

  • multilateral trading facilities (MTFs)
  • order internalising systems operated by investment service providers (investment banks, investment firms)

In the view of the FBF, the reform should hinge on two key principles :

  • a level playing field among order execution systems, i.e. the same rules must apply to the same functions ;
  • pre-trade and post-trade transparency in order execution systems, with a priority rule for access to those systems. Transparency and equal access will warrant healthy competition, to the benefit of investors and issuers.

These principles have not been given due consideration in the Commission's proposal. On the key questions of transparency and fair competition, the FBF recognises that some progress has been made relative to previous draft projects. However, the choices made by the Commission will perpetuate discrimination between order execution systems, giving the advantage to internalising mechanisms. This creates an area of non-transparency.

Under the present proposal, financial intermediaries would be able to execute client orders immediately at the specified limit price without informing other market participants. They would be required to notify the market straight away only if they are unable or unwilling to execute such a transaction themselves. However, communicating this information is vital to proper price formation on the market. The absence of a strict rule on the mandatory reporting of limit orders to the market, along with the respect of the priority rule, cannot be counterbalanced by simply requiring intermediaries to publish bid-ask spreads for limited amounts.

If the directive were to remain in its present state, there would be two main consequences :

  • the number of trading venues would increase, thereby fragmenting markets, and large intermediaries, notably those of third countries, would be able to siphon off liquidity via internalising systems or MTFs if they were subject to more benign rules than those applicable to regulated markets ;
  • asset prices would increase, thereby impairing the transparency of the price formation mechanism. This would undermine the confidence of investors and issuers at a time when the markets are already in difficulty.


Colette Cova
email : ccova@fbf.fr
Tel : 01 48 00 50 07

Kenza Benqeddi
email : kbenqeddi@fbf.fr
Tel : 01 48 00 50 08

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