The imminent implementation of MiFID II, a directive that will change the entire structure under which the retail FX industry operates across Europe, is comprehensive to say the least. Here it is, examined from the perspective of a prominent retail FX brokerage.
Vince De Castro is Head of Marketing at Orbex
As part of the regulatory effort to increase investor protection, the second phase of the Markets in Financial Instruments Directive (MIFID) is due to be implemented over the coming month.
The changes, which will take effect across all member states, have been planned since the first phase of MIFID came into effect and are designed to increase transparency and protection for traders.
The new legislation will have a widespread impact on retail clients, a range of financial markets operators from interdealer brokers, investment banks and retail brokers through to data reporting service providers. It also specifically introduces a raft of changes for organisations using algorithmic and HFT trading strategies.
Increased Trade Recording Transparency
The main focus of the new legislation will be on increasing transparency around the trade recording process. Organisations are required to precisely log each individual order they receive (orders must be time sequenced, clock synchronised to a millionth of a second and timestamped).
These order logs, including quotations from trading venues, must be stored for a minimum of five years. Additionally, banks and brokers need to be able to show customers that they were offered the best price available.
Automating Spreadsheet Control
As spreadsheets are a core input for data feeds, an automated approach to data feeds is essential to ensure compliance with MIFID II. An example of this is the requirement for a full sign off on workflow processes for all business functions from credit risk and market risk through to any adjustments to algorithms that are connected to the market.
Also, any updates to any pricing inputs that stream into data feeds will need to be tested and must have an audit trail to service as evidence of the process.
Decision Maker Status Key for Brokers
Under MIFID II, transaction reporting will be increased from 24 to 65 fields of reportable data. One of the new fields that is particularly important to the Brokerage & CFD industry is “Decision Maker”. Alongside stating the buyer or seller involved in the trade, MIFID II requires clarification on whether there is a third party involved in the trade and if that third party has been given authority to place the trade.
For FX/CFD brokers, the most pertinent categories are:
- External Money Manager – This person has a Power of Attorney agreement to control an account held with an investment firm and can trade at their own discretion. Can also be a MAM (Multi-Account Manager).
- External Individual – this is similar to a money manager where the trade holds a Power of Attorney agreement to trade on someone else’s account. Typically, this is seen in a “friends and family” context where the trader is trading multiple accounts.
- Internal Broker – This is where an investment firm is also a ‘decision maker’ and occurs where a client allows their broker to trade on their behalf.
Internal Money Manager/Copy Trading – This is where an investment firm also holds a money manager license allowing them to trade client funds. Brokers providing copy trading services are also likely fall under this category.
Trade Commentary to be Used on Metatrader
Platforms such as MetaTrader allow for comments to be logged alongside an order. Therefore, for money managers who run multiple accounts, systems will include a comment in the trade reports identifying if the trade was opened by a manager.
Under the new MIFID legislation there will be an expanded range of situations where ‘Decision Maker’ fields will need to be filled in by brokers and along with the important task of identifying these different decision makers, the other key task will be establishing a streamlined and safe way of recording this information in the trade data.
New Execution Venue
Another key change being brought about by the new legislation will be the creation of a new trading execution venue. The Organised Trading Facility (OTF) will be used to capture “dark pool” operators and similar trading systems such as inter-broker dealing systems for non-equity instruments.
Derivatives which are liquid enough will need to be traded on eligible platforms such as OTFs, MTFs (multi-lateral trading facilities) or RM’s (regulated markets) instead of just being transacted via over the counter trading venues.
With less than a month to go until the new legislation comes into effect, the race is on for firms who need to overhaul their operations in order to maintain compliance. Ultimately, despite the disruption, the move will be of significant benefit to clients of these firms and is therefore being welcomed by traders.