Bond-Allocation Rules Tightened as EU Revamps Financial Markets

  • Underwriters will have to `prevent or manage' conflicts
  • Banks to keep `complete audit trail' when allocating

The European Union is set to tighten rules on securities issuance as it overhauls financial-market regulations to remove conflicts of interest between underwriters and their corporate clients.

Draft legislation prepared by the European Commission, the EU’s executive arm, sets out detailed rules on the issuance process, including a requirement for underwriters to inform issuers about the investors they plan to target and the names of staff who will decide on the price and allotment of any sale of securities.

Firms must put mechanisms in place to “prevent or manage” conflicts of interest over pricing and to ensure corporate-finance advice isn’t skewed by staffers who also provide advice to investment clients, according to the undated commission delegated regulation obtained by Bloomberg. The commission declined to comment on the document, which sets out technical standards needed for the implementation of the EU market law known as MiFID II.

“This tries to get everyone on the same level and is highly prescriptive,” said Jonathan Herbst, a securities lawyer at Norton Rose Fulbright. “There is a lot of serious detail in these provisions. The text is evolving into a proper business-conduct source book. We are moving toward a genuine European financial services handbook.”

The EU is trying to prevent banks that manage securities sales from disadvantaging corporate clients by directing the instruments they underwrite to an investment customer willing to pay higher fees or put extra business their way in return. Under the draft rules, an underwriter will have to “involve the issuer client in discussions” about how the securities will be placed, including allocations to the various types of investor client.

The regulation also affects banks that sell securities to their customers both directly and indirectly through mutual fund companies they own. They will have to make arrangements to prevent or manage potential conflicts of interest and “such arrangements shall include consideration of refraining from engaging in the activity, where conflicts of interest cannot be appropriately managed,” according to the document.

Firms will also have to keep complete, centralized records of what potential issuers instructed them to do and when the instruction was received. Allocation decisions will have to be recorded “to provide for a complete audit trail,” and the final allocation to each investor will have to be recorded and justified, according to the document.

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