Client transaction execution services in Poland – risk of reclassification and increased duties
As a matter of Polish market practice, a client’s direct purchase or sale, via a bank, of particular financial instruments (eg foreign securities, debt instruments or derivatives not admitted to trading on the regulated market or MTF) is treated by the bank as dealing ‘on own account’ (proprietary trading) not as ‘executing a client order’. This designation removes a bank’s best execution duty to which a retail client would normally be entitled if the bank was ‘executing a client order’. Will MiFID II make any difference?
MiFID I (implemented by the Polish Act on Trading in Financial Instruments) made no difference to this market practice despite there being a specific provision aimed at removing the distinction (Art 73(2) of the Polish Act on Trading in Financial Instruments). Both “dealing on own account” and “execution of orders on behalf of clients” are within the scope of investment services and activities included in Annex I, Section A of MiFID II.
In 2007 the European Commission stated that a bank could be “dealing on own account” at the same time as “executing an order on behalf of client”. It stated that:
carrying on the activity of dealing on own account can also involve the provision of a service to a client in some cases;
proprietary trades will sometimes attract the best execution obligation. This will depend on whether the execution can been seen as truly done on behalf of the client. This is ultimately a question of fact that would depend on whether the client legitimately relies on the firm to protect its interest in relation to the pricing and other elements of the transaction, such as the speed or likelihood of execution and settlement;
a four-fold test should help to determine whether a proprietary trade should also be deemed as an execution of an order on behalf of a client, and therefore attract a best execution obligation:
Who initiated the transaction?
Prevailing market practice.
Level of transparency of the market.
The terms of any client agreement.
in ordinary circumstances, a retail client relies on a firm to protect its interest in relation to the pricing and other elements of a transaction (which triggers the best execution duties) but in the wholesale market the reliance is less.
Although this four-fold test has not been directly transposed into the Polish law provisions implementing MiFID I or the draft provisions implementing MiFID II, it has been used by the Polish regulator (KNF) to determine whether direct dealing with clients should be treated as the execution of orders on behalf of clients (attracting the best execution duties) and thus falling within the ambit of Article 73(2) of the Act on Trading in Financial Instruments.
The Act on Trading in Financial Instruments will likely be changed in the context of the implementation of MiFID II. According to the draft MiFID II implementing act of March 2017, it will not only provide that the execution of orders includes the conclusion of contracts for the sale of financial instruments, but also “other agreements of equivalent nature, including agreements for the sale of financial instruments sold or issued by an issuer (wystawca)”. This amendment should mean that a broader range of transactions could potentially be reclassified as executing of orders on behalf of clients and caught by the best execution duty.
The legislative process concerning the implementation of MiFID II provisions in Poland has not yet been finalised. The future approach of the Polish regulator to the question of client execution services is also unclear. However, given that one of the purposes of MiFID II is to strengthen investor protection, it may be that amended Polish provisions will shift the regulator’s focus to a more frequent application of best execution requirements.
Any Polish investment firm, Polish bank or foreign investment firm operating in Poland that deals in financial instruments (especially for retail customers) should now assess: whether MiFID II implementation will affect the qualification of its dealings, what new obligations may arise from the reclassification, and how it will affect its client documentation and internal processes.
This case summary is part of the Allen & Overy Legal & Regulatory Risk Note, a quarterly publication. For more information please contact Karen Birch – firstname.lastname@example.org, or tel +44 20 3088 3710.