MiFID II Decoded: What the New Requirements Mean for the Future of Sustainable Investing
And how to navigate the complexity of the MiFID II regulation
The demand for and sophistication of sustainable investment offerings continues to grow. The new addition to MiFID II applicable since August 2 is set to have deep and wide-ranging implications for the investment industry at large.
Here are the highlights of a recent webinar presented by Spear’s, where experts from leading consulting firm KPMG, Swiss- digital native bank Radicant and awarded tech sustainability platform Clarity AI discuss what the latest developments mean for investors, the wealth managers who serve them – and the future of the investment landscape.
What’s new on MiFID II: sustainability requirements and implementation challenges
“The MiFID II amendments come mainly because of the EU action plan for sustainable finance, which started with SFDR. With the new MiFID II directive, the regulator introduces changes in the suitability test and also in the product governance requirements. Asset managers and wealth managers have to ask their clients about their sustainability preferences if any. With that information, they need to adapt the product offering. This has a great impact in the asset management and in the advisory services.”
“Probably, the main challenges here are:
– The data, where Clarity AI is trying to help a lot. The market is working hard to compile the information and the data that is required in order to classify the products according to their client’s sustainability preferences. But the truth is that the lack of data is hindering the implementation of the new regulation.
– Clients [end investors] are not used to speaking about these sustainability factors. If you ask them in a very simple way whether they want to take into account sustainable factors they’re going to say yes, but it’s not that simple. The regulation asks you to differentiate between taxonomy alignment, SFDR, sustainable products… and that’s not easy to understand.
– The uncertainty around the requirements of the regulatory criteria.”
“What our clients have done is implement or modify their suitability tests knowing that they are going to have to modify them again in the coming months so that’s a huge investment for them, one that is hard to understand.”
What does the new MiFID II mean for the future of sustainable investment?
“Sustainable investment is more than ESG integration, it’s also about values and preferences of investors, about the choice of not being exposed to certain sectors because of one’s personal values and it’s also about impact, about how companies impact the outside world. It goes beyond how sustainability is going to impact the enterprise value of invested companies.”
“MiFID II is potentially one of the greatest simplifications of the sustainable investment industry but also a complicated process when it comes to implementation. One thing is to assess investors’ preferences and another one is to connect it with the regulatory framework and to make the client experience seamless without misrepresenting and misselling your products.”
“Studies show that if clients are asked whether they want to embed sustainability preferences, most of them will say yes. I think the growth over the next years will be tremendous due to the new MiFID II.”
It isn’t just about satisfying regulatory requirements but also about customer experience
“The complexity and the uncertainty of the new MiFID II requirements create a lot of swirl for internal organizations to make effective decisions: which providers are they going to use, what data are they going to use, what’s the bare minimum to get this done… So there’s definitely an urgency here.”
“If we look at the US example, the winners in this space have implemented what we call the best interest regulation in a way that hyper focuses on the client experience, and not just a behind the scenes check the box. So they actually took a regulatory direction in demand and turned it into a value add for them, and all centered around the client experience.”
“People expect personalization and sophistication. Even outside of that high net worth experience; personalization is something we are seeing across sectors. It’s expected that clients and advisors want the same presonalized experience for their financial services delivery, that now includes the sustainability dimension.”
Lessons learned from the EU Regulations
Pilar Galán, KPMG: “It’s very important to guarantee the legal certainty in order to implement any regulatory requirements with clear guidance about what the different concepts mean. This can prevent what is happening in Europe, with differences across jurisdictions and their interpretation of what is sustainable and what is not, and how to catalog some products in terms of the methodology.”
Jan Poser, Radicant: “The EU Regulation was one of the fastest pieces of regulation that kicked in and really came to fruition. This is maybe where some of the criticism comes from: that it was very fast, that they threw it like a bomb at the market, and then they waited to see how the market behaved. And then it’s only after when you see the clarifications and the legal certainty mentioned by Pilar.”
Lydia Pinnell, Clarity AI: “Europe is helping develop frameworks and it’s absolutely leading the way in terms of sustainability. On the flip side, I think Europe has something to learn from a client experience standpoint and should expand on that into more of a value-oriented approach.”
Clarity AI’s approach to MiFID II
Rodolphe Bocquet, Clarity AI: “We have developed a very ambitious approach based on technology and AI, to ensure our data is reliable, even reported data, and that is broad. We also offer full transparency, a key component for regulatory purposes. However, data is one thing, but data is not enough. You need also capabilities, so tools that will allow you to use this data in a meaningful way.“
Lydia Pinnell, Clarity AI: “At Clarity AI, we took a conservative approach to make sure we can provide it all so that a firm, enterprise, or a wealth management organization can decide how to plug and play what they need at any time and evolve as the regulation evolves.”
“You really want to partner with somebody that is addressing every regulatory framework that is mentioned in MiFID II. Because if you have a client or a certain framework really takes steam and you don’t have the internal capabilities to classify based on that framework all of a sudden your universe is narrowed.”
But… Is there really flexibility?
Pilar Galán, KPMG: “The regulator has left flexibility on the definition of sustainable investment and the exact questions of the sustainability suitability test. It might be that they end up giving a standard or a template but I really don’t think so, it has not been the approach in the past for the suitability test.”
Jan Poser, Radicant: “I think it’s really important to have some flexibility when you talk to clients or present your services. Sometimes you want to present it in a more emotional way or sometimes in a more technical way. Let’s see where it goes but I don’t think that in the short term they are going to introduce a standardized test.”
Lydia Pinnell, Clarity AI: “It’s not just about the flexibility of the data and the frameworks but also the flexibility of how you implement the solution that works best for your organization. At Clarity AI, we offer multiple options: from more simple classifiers, using all the underlying frameworks mentioned all the way to more customized, full look-throughs of data so that you can make much more robust questionnaires and pull it through into internal platforms etc.”
And now, what? Advice from the experts
Pilar Galán, KPMG: “Don’t stop with compliance. The regulation brings also a great opportunity to take on a strategic approach in order to really implement and embed ESG in the firms.”
Jan Poser, Radicant: “Sustainability is a journey so just start this journey: you don’t have to go right to the end, but get started because you should expect a yes when asking your clients about sustainability preferences. And on that note, remember that in the end you are talking to clients so try to find easy questions and not bureaucratic ones.”
Rodolphe Bocquet, Clarity AI: “The choice of your sustainability data provider is becoming very strategic because you are going to use sustainability data in many ways, and you will not be able to hide behind your data provider when being challenged by the regulator. So this relationship with this sustainability data provider has to be a relationship of trust and in-depth understanding about what you’re providing with enough transparency.”
Lydia Pinnell, Clarity AI: “Be where the puck is moving so act fast because regulation is now but think towards the future and partner with somebody that can configure towards the evolution of this topic.”