Have You Checked if you are a Systematic Internaliser Lately?

Systematic Internaliser

Each investment firm (IF) is required to make a quarterly assessment on its previous 6 months’ data to determine if it qualifies as a Systematic Internaliser (SI). Where an IF is classified as a SI, it will be obliged to meet the pre- and post-trade transparency requirements. TRAction guides you through the assessment process.

What is a Systematic Internaliser (SI)?

As defined in Article 4(1)(20) of Directive 2014/65/EU (“MiFID II”), a SI is an investment firm which executes client orders OTC (off exchange or outside a regulated market (RM), multilateral trading facility (MTF) or organised trading facility (OTF)) on its own account on a frequent, systematic and substantial basis.

What does a “frequent, systematic and substantial basis” mean?

The definition of frequent, systematic and substantial basis, as per EU Regulation 2017/565, depends on the instruments that have been traded, measured over a 6-month period.

  • Systematic basis – the number of OTC client executions taking place on own account as a proportion of the number of transactions in the relevant instrument or class executed in the European Union (EU) on any trading venue or OTC. (ESMA publishes data on its website by the first calendar day of February, May, August and November every year)
  • Frequent basis – on average how often OTC client executions take place own account
  • Substantial basis – the size of OTC client executions on own account as a proportion of total turnover of the IF or total turnover across the EU.

What are the differences between SIs and Trading Venues?

While trading venues are facilities in which multiple third-party buying and selling interests interact in the system, a Systematic Internaliser is not permitted to bring together third-party buying and selling interests in functionally the same way as a trading venue. Such activity requires authorisation as an MTF. The main differences in characteristics are as follows:

SITrading Venue
Deal on own accountExecution only
Considered a counterpartyNot considered a counterparty but a facility
Single dealerMultilateral dealer platform
Does not engage in matched principal trading (MPT) on a regular basisAll trades are principal to principal
Registered as SI and corresponding authorisations and obligationsRegistered as regulated market or investment firm

When is an IF considered a SI?

The table below shows the criteria that qualifies an IF to be a SI. A few examples are in the tables that follow:

InstrumentWhere there is a liquid marketWhere there is not a liquid market
Systematic basis (minimum)Frequent basisSubstantial basisFrequent and Systematic BasisSubstantial basis (minimum)
• shares
• depositary receipts
• ETFs
• certificates
• other similar financial instruments
0.4%Daily15% of IF’s total turnover
OR
0.4% of EU’s total turnover
Daily15% of IF’s total turnover
OR
0.4% of EU’s total turnover
bonds2.5%Weekly25% of IF’s total turnover
OR
1% of EU’s total turnover
Weekly25% of IF’s total turnover
OR
1% of EU’s total turnover
structured Finance Products4%Weekly30% of IF’s total turnover
OR
2.25% of EU’s total turnover
Weekly30% of IF’s total turnover
OR
2.25% of EU’s total turnover
derivatives2.5%Weekly25% of IF’s total turnover
OR
1% of EU’s total turnover
Weekly25% of IF’s total turnover
OR
1% of EU’s total turnover
emission Allowances4%Weekly30% of IF’s total turnover
OR
2.25% of EU’s total turnover
Weekly30% of IF’s total turnover
OR
2.25% of EU’s total turnover
*liquid market is defined in Article 2(1)(17)(b) of Regulation (EU) No 600/2014

Example 1

ABC Broking has the ‘dealing on own account’ authorisation on their licence and deals on their own account.

ConditionsMeet Criteria?
Step 1 – determine if there is a liquid market
Offers DAX ETFsThere is a liquid market
Step 2 – determine if there is a frequent, systematic and substantial basis
Systematic basisInternalises 10% of all orders receivedYes – 10% > 0.4%
Frequent basisDeal with OTC transactions on own account everydayYes – daily
Substantial basisThe total turnover they internalise over 6 months is EUR 3 million and the total turnover they have during the same period is EUR 11.5 millionYes – 3 million / 11.5 million = 26% > 15%
Step 3 - conclusion
Yes – ABC Broking is considered a SI in this instrument as all criteria have been met.

Example 2

DEF Broking has the ‘dealing on own account’ authorisation on their licence and deals on their own account.

ConditionsMeet Criteria?
Step 1 – determine if there is a liquid market
Offers illiquid bondsThere is not a liquid market
Step 2 – determine if there is a frequent, systematic and substantial basis
Frequent and Systematic basisDeal with OTC transactions on own account every weekYes – weekly
Substantial basisThe total turnover they internalise over 6 months is EUR 200 billion and the total turnover in EU during the same period is EUR 18 trillion Yes – EUR 200 billion/EUR 18 trillion = 1.11 % > 1 % (substantial basis)
Step 3 - conclusion
Yes – DEF Broking is considered a SI in this instrument as all criteria have been met.

Example 3

XYZ Broking has the ‘dealing on own account’ authorisation on their licence and deals on their own account

ConditionsMeet Criteria?
Step 1 – determine if there is a liquid market
Offers Airbus sharesThere is a liquid market
Step 2 – determine if there is a frequent, systematic and substantial basis
Systematic basisInternalises 20% of all orders receivedYes – 20% > 0.4%
Frequent basisDeal with OTC transactions on own account once a week No - weekly, it needs to be daily in order to meet the criteria
Substantial basisThe total turnover they internalise over 6 months is EUR 10 billion and the total turnover they have during the same period is EUR 83 billion No – 10 billion/10 trillion = 12 % < 15%
Step 3 - conclusion
No – XYZ Broking is not considered a SI in this instrument as not all criteria have been met.

How does an IF become an SI?

As illustrated above in the examples, if the threshold is met in any of the relevant instruments, an IF will become as SI in that specific instrument and has an obligation to notify their local NCA of the status.

As IFs are able to opt-in to, or opt-out of, the SI regime for different asset classes at any time, they are required to notify their NCA in any one of the following circumstances:

  1. opt-in to act as SI;
  2. ceased to be a SI where they previously opted-in;
  3. ceased acting as SIs in all the classes of financial instruments previously notified;
  4. started acting as SIs in a class of financial instruments; or
  5. ceased acting as SIs in a class of financial instruments.

What does an SI have to do differently to an IF?

SIs are subject to pre- and post-trade transparency requirements.  They must make public pre-trade quotes (on request or by choice) through a Trading Venue, Approved Publication Arrangement (“APA”) or on the firm’s website.  Accordingly, SIs will need to establish means for responding to requests for quotes. 

They are also subject to post-trade transaction reporting requirements, whereby a wide range of information in relation to the trades executed needs to be reported to an Approved Reporting Mechanism (“ARM”) or NCA.  SIs will need to have systems in place for gathering and reporting relevant data.

Additionally, IFs should also create and maintain a list of all financial instruments for which they are a SI and the list should be made available if at any time their NCA request to access such information.

Is there a difference between FCA and ESMA in determining SI?

While there is currently no glaring difference, there has been a proposal by HM Treasury’s Wholesale Markets Review to replace the current definition of Systematic Internaliser (SI), which requires firms to carry out quantitative calculations on a regular basis, with a qualitative one.

The consultation also proposed determining SIs at an entity level rather than on an “instrument by instrument” basis for the purpose of reporting.

As of March 2022, the FCA is working closely with the government on the Wholesale Markets Review.

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