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MiFID II: Rewriting the Code

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Demanding regulation is transforming order and execution management systems into detail-driven trading engines

The capacity of order management systems (OMSs) to support buy-side desks was challenged at the Barcelona-based Fixed Income Leaders Summit 2015 on 14 October by John Greenan, a front office systems specialist, who suggested that some providers “had not kept pace” with the needs of traders as highlighted by a weak support for fixed income trading. Stephen Grady, head of Global Trading at Legal & General Investment Management said that Greenan’s comments were an “accurate reflection”, and said “Analysing trading, or who we are trading with and how they traded in the past; those are the gaps. In order to evolve the trading desk that is the sort of functionality we are looking for. I think the OMS space has left that field open to other vendors for whatever reason.”

The revisions to the Markets in Financial Instruments Directive (MiFID) will give OMS and order management system (EMS) providers the chance to prove themselves in these fields. Buy-side firms reported to consultancy Deloitte that transaction reporting, disclosure and repapering and recording of communications/record keeping were the top operational challenges they face according to the consultant’s October 2015 research paper ‘Navigating MiFID II: Strategic decisions for investment managers’.

MiFID is increasing the level and detail of information that must be disclosed by brokers, venues and investment managers, which necessitates the automation of data gathering and analysis on a scale not previously seen by market participants, particularly buy-side firms.

“The biggest issue we hear about from the buy-side is transaction reporting,” says Gary Stone, chief strategy officer for Trading Solutions at Bloomberg. “Under MiFID 1 the sell side was able to do this for their customers. Under MiFID II, the new required data fields and how they collect and store them are all challenges.”

Alun Cutler, director for Product Management EMEA at OMS provider Charles River Development says, “From a technical perspective the additional data element really probably stems more from the transaction reporting needs than the best execution needs. We have gone through the various documents and identified around 60 plus data elements.”

The broadening of the asset classes affected under MiFID broadens the use of policy ideas that were largely only applied to equities under the original 2007 directive. Investment managers are being scrutinised more and are having to specify their policies in more detail to end investors. The removal of any link between commission and transactions through unbundling will mean that a clear and consistent practice must be enforced in selecting a destination by a broker for execution, impacting the smart order router (SOR) and transaction cost analysis (TCA) functions included in OMS/EMS platforms.

Rob Watts, sales director, EMEA at OMS/EMS supplier Portware says, “I don’t think this removes the ability of a buy-side trading desk to make these decisions on their own and to use their informed judgement to make those decisions but there has to be a justification of how they are routing that. They need to be able to document their decision making whether using TCA metrics, historical data points on execution quality, broker scores into pre-trade analysis and decision making.”

Built-in best execution

While getting the best results for clients was established under MiFID’s best execution requirement, the complexity is far greater when applied across multiple asset classes, with more considerably more information available in real-time, and with the proliferation of destinations, brokers and algorithms.

“How you make decisions on the selection of those variables around execution is where technology comes in,” says Watts. “Combining metrics on historical trade performance, liquidity, venue analysis on real time data, broker scores and incorporating that technology on broker and algos. Those are the sorts of things that are getting discussed when we talk to head traders.”

To support the capture and transfer of information requires an OMS to be expanded in order to match its capacity with the technical standards issued by the European Securities and Markets Authority (ESMA).

Karl Kutschke, senior director for Product Management at Charles River Development says “For the best execution provision there is an addition to the database which is more about being able to capture the decision maker’s intentions at various points.”

From the point that the portfolio manager first dates an order, activities need to be captured so that a trade and its strategy can be unpicked. Once an order gets sent down to the desk if the trader needs to move away from that original methodology it needs to be clear why they did so, for example if they were expected to execute on price but they executed based on another metric that being able to capture that decision will affect the design of the system.

“In today’s world we have comment fields for folks to be able to log that information,” Kutschke says. “So in one sense we actually already had what we needed, but knowing that there is reporting on this, knowing that there is more information that needs to be captured we are making changes to capture that level of granularity.”

In the system

The rules are very detailed and their impact is often dependent on specific instrument characteristics; most of these rules will need to be understood by the OMS and EMS to make sure that they are applied on a case by case basis, while keeping workflow efficient says Jesper Svensson, head of product in SunGard’s Global Trading Business.

“To drive the rules new sets of static data need to be stored and kept up to date,” he says. “Some types of trading will be restricted and sometimes new workflows are needed. These changes affect many parts of the systems architecture, like storage and data models, workflow logic, user interface and market gateways.”

Workflows will also have to be automated in order to prevent the considerable amount of intrusion into traders’ decision making.

Palak Patel, Global head of Bloomberg Asset and Investment Manager says, “From an OMS standpoint, the biggest shift is around data. There are steps in the decision-making process where you don’t want the trader to have to step in, for example with binary choices such as whether something is illiquid or liquid. You need the OMS or EMS identifying that.”

In order to manage the various instrument and characteristic specific rules, for example whether an instrument is deemed ‘liquid’ or not, an OMS or EMS needs to filter orders according to their attributes.

Watts says, “[It means] showing all of the liquid versus illiquid, showing certain securities that have flags against them, then combining that with other data points – historical analysis, brokers’ past performance, multiple data points – then running Boolean logic against those orders to make traders’ lives easier so that they are not filtering through them. A lot of those data points, liquidity score and so forth, will be coming through from a market data provider, or one of the vendors conducting a lot of analytic on these securities, so we can use those in SOR logic.”


Although the issuance of final technical standards by the European Securities and Markets Association on 28 September 2015 effectively completed the process of transcribing the new directive into operational practice, there are still gaps in understanding, some of which will be need to be ironed out by the competent authorities (CAs) in each national market notes Stone.

“Once an order starts everything consequently has to be digitised which changes the workflow,” he says. “We need some practical implementation guidance from the CAs regarding the rules, as that could dramatically change the way the workflow occurs. For example, there are questions around clock in reconstructing the order handling decisions.”

There is also uncertainty around when an order is determined to be an order or an instruction, and when quote is quote rather than an indication of interest. Fixed income market with use request for quotes (RFQs) currently introduce possible matches but where those are not actionable it may affect their status and the subsequent workflow.

“Our sell side OMS clients are asking these questions and they dramatically affect the buy side, because as a matter of practical implementation the answers may drive the trigger for pre-trade transparency and the type of trading that is occurring,” he says.

Watts concurs, noting, “There are lots of questions that still need to be answered I don’t think that there is a huge amount of clarity across regulation. Recently I was at an event at which the pre- and post-trade transparency requirements were being discussed and even amongst industry experts there is still ambiguity around what is trying to be achieved and how it will be. I would definitely say there is room for clarity from regulators and those that are writing legislation.”

So far the EMS/OMS providers report moderate pressure from their clients as the technology firms have been aware of changes and working towards them with the trading desks to meet deadlines.

“They are reading up on details from ESMA, assessing the implications and figuring out what they need to do,” says Svensson.

In some cases this includes establishing whether their trading activities will be so heavily impacted that they will be changed, and where there may new opportunities or requirements that call for an entirely new business process.

“They expect us as solution providers to do the same and be ready to support their business in good time before the regulation goes live in January 2017,” he says.

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