As reported previously in a detailed analysis by our contributing authors, Tom Callaby and Liz Jewitt at CMS (which is well worth reading in depth), the FCA published a Policy Statement (PS23/11) in July on the UK regulatory perimeter connected to trading venues.

In short, this Policy Statement is trying to delineate who precisely falls within the scope of the FCA rules and therefore needs to be authorized as a venue by the regulator. Being within scope of course also means complying with all the various rules that other trading venues are traditionally subject to, including surveillance and reporting of suspicions of market abuse.

The FCA Statement follows on the publication of an opinion by ESMA on the trading venue perimeter in February. In this document, ESMA made clear that the type of technology utilised is not a determinative criterion when it comes to falling within the scope of the MiFID II definition of a multilateral trading venue. It also indicated that systems supporting bilateral interactions would be in scope and that even a “single dealer system operated by someone other than the dealer could be in scope of the multilateral system definition.”

ESMA view on trades executed

ESMA also said that it stood “by its interpretation” of a system “as a set of rules that governs how third-party interests interact”. In ESMA’s view these rules “do not need to ensure that trades executed in the system are contractually binding” in order to be caught within the regulatory perimeter arguing that “the definition of a contract can take many forms depending on the legal context” and therefore “cannot be a deciding factor when evaluating a system”.

The backdrop for regulatory concern and the need to provide clarification on the rules is technological change. Technology companies offering solutions to market participants are continuously innovating and enhancing their existing products. Some of the functionality introduced means that the line, traditionally easily discernible, between a regulated trading venue and a technology vendor has become increasingly blurred.

And while many of the systems being built by specialist technology vendors can add significant value to market participants by, for example, facilitating more efficient interactions between counterparties, other systems offer functionality that, it could be argued, effectively make them trading venues both from a practical as well as a regulatory perspective.

MiFID II and MiFIR

According to our regulatory expert Rob Mason, significant confusion remains in this area with “some viewing the regulatory intervention as either forcing them to change the services that they offer or to adapt to a set of rules that now apply to them”; he also thinks that the consequences can be profound because “the compliance, liquidity, financial crime and market conduct controls that are required for regulated venues are significant, with potentially no distinction between a small boutique exchange with limited products and a systemically vital primary market”.

Both ESMA and the FCA base their guidance on the same regulations: the second Markets in Financial Instruments Directive (MiFID II) and the Markets in Financial Instruments Regulation (MiFIR), both of which have been incorporated into UK law following Brexit. Intended, in part, to increase transparency by bringing more trading on to regulated venues, the rules stipulate that platforms meeting the newly introduced definition of multilateral systems should be authorised as trading venues.

Without duplicating the already excellent analysis available from CMS (and others elsewhere) we thought it would be worthwhile to create a few summary comparison tables of the guidance provided by both the FCA and ESMA on the trading venue perimeter. These are reproduced below.

Finally, you will no doubt have read our disclaimer, but because this area is so challenging it is worth repeating that this content does not constitute legal advice and that you should not rely on it, but seek a specialist if you feel that your firm might be affected.

ESMA / FCA multilateral system definitions

This table maps out the approaches of the regulators to the multilateral system definition and also provides some useful detailed contextual language that may help tease out the possible regulatory stance in connection with specific systems.

	Multilateral system
ESMA	All four elements of the definition of multilateral system must be met ESMA explicitly confirms that the criteria is ‘cumulative’.
FCA	All four elements of the definition of multilateral system must be met.

	System or facility
ESMA	Technology-neutral. To qualify as a system or facility, the set of rules must govern the interaction of multiple trading interests in the system. The conclusion of a contract is not a prerequisite.
FCA	Technology-neutral. The main criterion is whether there are specific rules concerning the interaction of multiple market participants to which participants shall adhere to.  Rules do not have to be legally enforceable or mandatory, nor do they have to require that trades in the system be contractually binding.

	Multiple third-party buying and selling trading interests exist
ESMA	The term “third-party” in this context relates to persons other than the system operator, that are not directly connected and are brought together in a transaction. The word ‘multiple’ refers to the system allowing various trading interests, to interact in the same system or facility.
FCA	Buying and selling trading interests’ is to be understood in a broad sense and includes orders, quotes and indications of interest. What matters is whether the system, at the point of entry, enables one person to interact potentially with multiple others (other than the operator).

	Trading interests able to interact in the system
ESMA	The system must not only allow the display of the different trading interests but also allow users to react to those trading interests. The conclusion of a legally binding contract is not a prerequisite for a firm to be required to request authorisation as a trading venue for the system it operates. Systems where trading interests can interact, where there is confirmation (or pre-arranging) of a transaction or where the essential terms have been (or can be) negotiated (for example price, quantity), would still require authorisation as a trading venue, even if some further contractual details are arranged outside of the system as is the case with many derivative contracts. Interaction requires that the system contains rules concerning the matching, the arranging and/or the negotiations of trading interests. General advertising and/or aggregation of trading interests should not qualify as multilateral systems.
FCA	Interaction takes the form of an exchange of information relevant to essential terms of a transaction. The interaction does not require the execution of a transaction to take place within the system (does not require the conclusion of a legally binding contracts as a condition). Interaction between trading interests can arise in a system because the system: 1) matches trading interests within its system; or 2) allows users to respond within the system to other users’ trading interests, including by communicating in relation to, negotiating or accepting essential terms of a transaction.ot have to be legally enforceable or mandatory, nor do they have to require that trades in the system be contractually binding.

	Financial instruments
ESMA	Only systems allowing third party interaction on those instruments specified in SECTION C of Annex I of MiFID II should be considered as a multilateral system within the scope of MiFID II.
FCA	The trading of spot commodities is outside the trading venue perimeter. A financial instrument is an instrument specified in Part 1 of Schedule 2 of RAO.

FCA detailed guidance

This table draws together the detailed guidance from the FCA on specific types of systems, including our outline of what might make each system in / out of scope of the regulatory perimeter. We have also supplied some questions that system owners could pose in order to try to determine whether their system could fall within the perimeter.

	1) In scope 2) Out of scope 3) Key questions
Crowdfunding platforms	1) It involves the interaction of trading interests. 2) It involves the matching of funding interests only (bulletin boards). 3) Can users negotiate or accept essential terms of a transaction? Can users execute transactions within the system?
FX platforms	1) Interaction within the system is multilateral. 2) Interaction within the system is not multilateral. Interaction within the system is multilateral, but the system falls within the MiFID Org Regulation FX perimeter Interaction within the system is multilateral, but the system supports a non-financial business accessing a trading venue for hedging purposes. 3) Are user interactions with the system multilateral? Does the system fall within the spot FX perimeter as set out by the MiFID Org Regulation?  Is the system subject to the MiFID-based hedging exemption?
Internal crossing	1) It is a sole or standalone service. 2) It is directly connected with the activity of portfolio management. 3) Is it a standalone service? Is it connected to the firm’s portfolio management activity?
Order Management Systems (OMS) and Execution Management Systems (EMS)	1) Specific features and functionality of a multilateral system present. 2) Specific features and functionality of a multilateral system absent. 3) What is the specific functionality the system offers users?  Note – A system will not fall outside of the perimeter only by virtue of not carrying out certain activities related to trading venue regulatory requirements – in other words carving out an activity / functionality in order to avoid falling within the perimeter is unlikely to be sanctioned by the FCA.
Price reporting agencies	1) Circumstances of the activity in question fall within the definition of a multilateral system. 2) The system is operated for the purpose only of executing trades on a trading venue in accordance with the venue’s rules. 3) What are the specific circumstances of the activity in question? If the specific circumstances do not result in the firm’s system being deemed a multilateral system are any other regulatory permissions required?
Primary market activity	1) A secondary market and trading interest in the financial instruments exists. 2) A secondary market and therefore trading interest in the financial instruments does not exis 3) Does a trading interest in the financial instruments exist?
Request for quote systems	1) The system comprises multiple third-party buying and selling trading interests. The system, at the point of entry, enables one person to interact potentially with multiple others (other than the operator). 2) The other definitions of a multilateral system, including a set of rules and the asset classes are not met. 3) If the specific circumstances do not result in the firm’s system being deemed a multilateral system are any other regulatory permissions required?
Retail service providers	1) Activity constitutes the arranging of deals in regulated asset classes and can therefore be classified as within the scope of RAO Article 25. 2) Functionality offered merely provides means by which one party to a transaction (or potential transaction) is able to communicate with other such parties. RAO Article 27. 3) If quotes are provided via an online broker, is this likely to be within the perimeter? (probably yes)
Securities financing transactions (repurchase transactions, securities lending or borrowing, buy-sell back or sell-buy back transactions and margin lending transactions)	1) Financial instruments are traded on the system and all other elements of the definition of a multilateral system are met. 2) Arranged and undertaken purely bilaterally (outside the system). 3) Are interactions generated via a multilateral system (even if these are types of indications of interest)?
Service companies	1) The firm is involved in activities related to the trading of financial instruments – including the provision of technology designed to support trading 2) The firm’s only permitted activities are the making of arrangements. 3) Are any activities other than the making of arrangements permitted?
Systematic internalisers	1) Putting in place arrangements that do not involve the assumption of trading risk (eg resting orders in Sis until there is a match). Executing non risk-facing transactions and bringing together multiple third-party buying and selling interests. 2) Dealing on own account and undertaking risk facing activity that impacts its profit and loss. 3) Can the transactions be classified as ‘dealing on own account’? Do the transactions involve the assumption of trading risk? Do the transactions bring together multiple third-party buying and selling interests?
Voice broking	1) All four elements of the definition of a multilateral system are satisfied. 2) It involves the arranging or executing of client orders over the telephone. 3) Does it have the characteristics of a trading system or facility? What is the role of the operator?

ESMA specific cases

This table draws together the detailed guidance from the FCA on specific types of systems, including our outline of what might make each system in / out of scope of the regulatory perimeter. It is included here as it provides some additional useful detail that can be helpful, given the comparable approaches of the regulators.

	1) In scope 2) Out of scope 3) Key questions
Communication tools	1) Communications tools that provide the means to match[,] arrange and/or negotiate a transaction between participants. 2) Pure communications tools used to aggregate and broadcast indications of interest.  3) Does the system give users the means to agree on a transaction within the system?
Order Management Systems (OMS) and Execution Management Systems (EMS)	1) Systems with additional features and/or levels of complexity that allow for the interaction of multiple third parties buying and selling interests.  2) Systems purely supporting the routing of orders without third-party rules for this interaction. 3) What does the system permit users to do? What is the role of the entity operating the system? How does the system actually function?
Request for quote systems	1) Systems operated by an independent third party, who sets the rules and parameters, that allow multiple trading interest to interact even with one liquidity provider.   2) Systems where a software vendor is used to extend the firm’s IT capabilities, but the investment firm sets the rules and is therefore considered the systems operator. 3) Who sets the rules and parameters that determine trading interest interactions?
Service company regime	1) Pre-arranged transactions not ultimately formalised on a trading venue and not benefitting from a pre-trade transparency waiver on that trading venue.  2) Transactions that are pre-arranged, but ultimately formalised on a trading venue . 3) Is the firm an Authorised Investment Firm?  Then  Is it a member or participant of the trading venue?  Or  Does it have an agreement with the trading venue? Does it have an agreement with the users?