Banks and savings banks have implemented well the taping requirements under the Second European Markets in Financial Instruments Directive (MiFID II). In most cases, credit institutions now inform their clients in advance and in an individualised manner about the costs associated with their investment decisions using an itemised breakdown. However, the majority of banks and savings banks still struggle to explain the reasons behind an investment recommendation to their clients. These are some of the findings of the second market survey conducted by BaFin in January 2019 on the implementation of MiFID II (see BaFin Chief Executive Director Elisabeth Roegele on MiFID II)¹.

Immediately after the entry into force of the new conduct of business obligations following the implementation of MiFID II on 3 January 2018, BaFin conducted its first market survey on the implementation of the provisions at banks and savings banks in the same month. The new January 2019 survey shows the extent to which banks and savings banks have remedied the identified shortcomings under supervisory law over the last 12 months.

Taping

In 2018, the institutions already had a good record for the technical and procedural implementation of the provisions on the recording of telephone conversations (taping). The gaps in the recordings, which BaFin criticised as a violation of the requirements in 2018, were due to the fact that the recordings were at times stopped and then resumed. These gaps were no longer observed in the most recent survey. Recording interferences due to technical or individual errors are still a rare occurrence.

The audio recordings that were analysed show that bank employees closely follow the banks’ internal requirements on how to conduct calls. Only few clients criticised the fact that their conversations were being recorded (1.5%). It appears that investors have come to terms with the taping requirements in the context of securities transactions over the phone.

Cost transparency

The quality of cost forecasts as such is high. For instance, 90% of the ex-ante cost information provided does not differ or differs by 5% at most from the actual cost of order execution (one-off charges) (see chart below).

Differences between the forecast cost and actual cost of order execution

Another positive aspect is that, with a few exceptions, the institutions provided ex-ante information on costs and charges on time and in a durable medium (98.5%). In comparison, the share of cost information disclosed with a delay amounted to 6.9% back in 2018.

As far as the level of detail is concerned, 92.7% of the cost information provided already complied with the provisions under Annex II of Commission Delegated Regulation (EU) 2017/565 even though, by law, the itemised breakdown in this Annex only has to be provided at the customer’s request.

Differences in the cost information provided

The fact that most of the costs and charges disclosures refer to specific transactions regarding specific financial instruments with an international securities identification number (ISIN) rather than approximate estimates is another positive development. But in some isolated cases, generic cost information, where the costs stated are based on entire asset classes, is still provided in the industry. The share of generic cost information has decreased from 6.7% in 2018 to 4.5%.

In this context, it was also confirmed that generic cost information or cost information based on asset classes is linked to a higher rate of errors in initial cost forecasts. The average difference between forecast costs and actual costs has increased from 94.5% to 155.5%. In comparison to the previous year, the latest survey elucidates even further that the use of generic information based on asset classes in order to forecast the cost of individual securities transactions can only give rise to inadequate results.

Individual information

As the European Securities and Markets Authority (ESMA) has explicitly stated, ex-ante information on costs and charges must, as a rule, be provided in an individualised, transaction-based manner, i.e. in relation to the specific financial instrument and in relation to the specific investment service provided. An exception is made only in cases where there are no product costs for such products or in specific cases where there is no obligation to state the product costs.

The format of the ex-ante information on costs and charges currently provided in the industry is still heterogeneous. This is probably due in particular to the lack of common market standards and the many questions regarding specific aspects that remain unanswered, which is why BaFin works in close cooperation and exchanges information with ESMA and supervisory authorities in other EU Member States.

Suitability report

The latest market survey also reveals that 88.7% of suitability reports are still incomplete although BaFin clarified the requirements for suitability reports to market participants after the first survey in the form of publications and presentations and by contacting them directly.

One aspect that has remained unchanged is the fact that in only 11.3% of the suitability reports, the institutions explain how the characteristics of the recommended product match all of the client’s requirements. In this matching process, the institution must consider, in particular, the investment term required as well as the client’s attitude to risk, knowledge, experience and ability to bear losses. However, 49.4% of cases show that the consideration of the individual criteria is not fully documented in the report. While this may already benefit the client to some extent, it fails to meet the legislation’s objective, which is to allow investors to gain a complete overview of the reasons behind a recommendation. 39.3% of the sample group’s suitability reports merely contained vague standard phrases.

A key point of criticism from BaFin is thus that, in many cases, there is no documented evidence of the qualitative matching of the customer’s information and the characteristics of the recommended product. Instead, many suitability reports contain general formulaic statements without providing any additional information.

ESMA has expressly confirmed that this does not benefit clients and that, for this reason, the requirements are not fulfilled in such cases. ESMA’s clarifications ensure that the requirements for suitability reports are dealt with consistently in all Member States.

Another common shortcoming concerns the documentation of the cost-benefit analysis when reallocating client portfolios. Institutions must be able to demonstrate to their clients that the benefits of the reallocation are greater than the costs. 40.6% of market participants have now started to implement this – compared to 4.5% at the start of 2018. But there is still some room for improvement at the majority of institutions.

The analysis of the suitability reports shed light on shortcomings among certain distributors in the product governance process, particularly when identifying the target market and reconciling the target market data with the corresponding characteristics of the client. This has led to investment recommendations where BaFin has serious reservations concerning their suitability in some cases. This illustrates how errors that are made when financial instruments are incorporated into the product range of distributors can make their way into concrete investment recommendations.

Conclusion

BaFin’s survey presents a mixed picture. While the implementation of taping requirements can be considered almost a complete success, there is still room for improvement as far as suitability reports and ex-ante information on costs and charges are concerned.

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