The Cyprus Securities and Exchange Commission (CySEC) has released a new circular to clarify the treatment of fractional exposure in shares, especially concerning investment services under Cyprus law.

This guidance, based on the Investment Services and Activities and Regulated Markets Law (Law 87(I)/2017) transposing MiFID II, outlines when fractional exposure would be treated as full exposure to shares, and the resulting regulatory obligations for Cyprus Investment Firms (CIFs).

Purpose of the Circular

CySEC’s circular is designed to guide CIFs on how fractional ownership in shares qualifies as share exposure under MiFID II and Law 87(I)/2017. When fractional exposure qualifies as share exposure, CIFs authorized under this law must comply with obligations related to share trading and holding as laid down in both MiFID II and MiFIR (Markets in Financial Instruments Regulation).

Background: A Growing Trend

Fractional share exposure, driven by online trading, allows clients of MiFID II firms (including CIFs) to invest in small portions of shares. This exposure can be structured through trust arrangements (resulting in fractional ownership) or via financial instruments that track share performance. In March 2023, the European Securities and Markets Authority (ESMA) issued a statement on derivatives for fractional shares, addressing the regulatory implications.

Scope of the Circular

The circular applies specifically to CIFs enabling fractional investments through trust arrangements for shares issued in non-fractional form, either under EU or third-country laws. However, shares issued directly in fractional form due to corporate actions, or those allowed by law to be issued in fractional form, are excluded from this circular’s scope, as they are considered whole shares without requiring trust arrangements.

Trust Arrangements for Fractional Ownership

Trust arrangements are essential in fractional shareholding where the CIF acts as a trustee, holding the legal ownership of shares while the beneficial ownership is divided among multiple clients. These arrangements must comply with the rules for holding client financial instruments under Law 87(I)/2017 and CySEC’s directive on safeguarding client funds.

Such arrangements should be properly documented in client agreements, ensuring clarity on the proportional ownership reflected in CIF records. This documentation is crucial for asserting the clients’ beneficial ownership rights.

The trust structure also ensures that all related shareholder rights are proportionally transferred to the clients, including voting rights, dividend distributions, and residual interests in the event of issuer liquidation. Moreover, fractional ownership through trust does not affect the classification of whole shares as transferable securities under the law.

Next Steps and Regulatory Obligations

CIFs must provide clients with clear, accurate, and non-misleading information about fractional shares and associated financial instruments. Notably, fractional ownership that does not use trust arrangements cannot be presented or treated as shares.

CIFs must also comply with the share trading obligation under MiFIR, as well as obligations related to safeguarding client assets. Where CIFs meet the criteria of Systematic Internalisers (SI), they must also fulfill related MiFIR obligations.

Conclusion

This circular ensures transparency and compliance for CIFs offering fractional exposure to shares, while safeguarding investors’ rights under Cypriot and EU regulations. It marks a significant step in regulating the growing practice of fractional share trading in line with MiFID II and MiFIR.

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