On 19 December 2014, the European Securities and Markets Authority (ESMA) published its technical advice to the European Commission on MiFID II and MiFIR. In particular, ESMA discussed section C. 6, 7 and 10 of Annex I of MiFID II in section 7 of its technical advice which covered commodity derivatives.
In paragraph 26 of section 7 of its technical advice ESMA stated that a “C.6 wholesale energy product contract can only be categorised as ‘must be physically settled’ when the parties entering into the contract are actually capable of delivery or receipt of the agreed amount of gas, power, oil or coal. Therefore the terms of a C.6 wholesale energy product contract or the rules of the OTF on which it is traded must require that both buyer and seller should have proportionate arrangements in place to make or receive delivery of the underlying commodity upon the expiry of the contract. The principle of proportionality should, in this case, be understood as requiring that the parties to the contract have arrangements in place which are adequate considering, for example, the size of their commercial activities or their production, storage or consumption capabilities.”
In paragraph 27 of section 7 of its technical advice ESMA stated that “it did not consult on the concept described in paragraph 26 since it had only been developed late in the ESMA deliberations. ESMA did, however, receive initial feedback in respect of this concept from energy regulators who were concerned that it may be detrimental to liquidity in energy markets and therefore may go against the goals of the Third Energy Package. ESMA however agreed to include it in ESMA’s Technical Advice in order to frame the C.6 exemption in line with the principles described in Recital 10 of MiFID II. In fact, such contracts, which according to MiFID should carry an enforceable and binding obligation to physically deliver could in theory be sized in a manner that would render delivery or receipt physically impossible in comparison with the storage, consumption or production capabilities of the counterparties. They would, in ESMA’s view, run contrary to the line expressed in Recital 10 of MiFID II.”
The Agency for the Cooperation of Energy Regulators (ACER) has now published a recommendation to the Commission on the regime applying to the derivative contracts referred to in section C.6 of Annex I of MiFID II which have the characteristics of wholesale energy products that must be physically settled. In general, ACER agrees with ESMA’s technical advice but is concerned that the text in paragraphs 26 and 27 could lead to a misinterpretation if it were to require that only counterparties with production, consumption or storage capabilities may enter into “must be physically settled” contracts. ACER believes that such misinterpretation could have several adverse impacts and undermine the concept of intermediation at the basis of liberalisation of energy markets. ACER therefore supports ESMA’s technical advice but makes certain clarifications.
ACER recommends that:
- the Commission’s delegated acts clarify that the “provisions which ensure that parties to the contract have proportionate arrangements in place to be able to make or take delivery of the underlying commodity” or “another method of bringing about the transfer of rights of an ownership nature in relation to the relevant quantity of goods without physically delivering them (including notification, scheduling or nomination to the operator of an energy supply network) that entitles the recipient to the relevant quantity of the goods”, as indicated in ESMA’s technical advice, suffice to guarantee the physical delivery of the commodity;
- the Commission’s delegated acts clarify that if a wholesale energy derivative contract traded on an OTF cannot be settled in cash, it must be physically settled and therefore this is falling outside the scope of Annex I C.6 of MiFID II; and
- the Commission’s delegated acts clarify that forward contracts that must be settled with physical delivery (which are not derivatives) do not fall under the scope of Annex I C.6 of MiFID II.
