For many buy-side institutions, the focus of the European Union's Markets in Financial Instruments Directive has been primarily in a single area. Their overwhelming concern over the past couple of years has been to ensure they are able to match up to the best execution requirements of the directive.
However, MiFID is not one-dimensional, and some firms may be focusing too much of their energy on a single issue. 'Best execution has probably been over-weighted, while possibly there has not been enough focus on other regulatory areas impacted,' says Richard Jones, chief executive of Fidessa LatentZero.
Jones points to client order handling and the requirement to treat all clients equally, handling orders fairly - especially where client and in-house funds are concerned. He gives an example of an aggregated buy order of 200,000 shares, within which one is an order for 190,000 shares and another for just 10,000. 'Under a standard pro-rate allocation, the smaller order doesn't get filled until after the 190,000 is done, which is clearly unfair to the smaller fund,' Jones says.
Protection against front-running, which involves a conflict of interest between in-house trading and third-party orders, is similar. 'Buying first for an in-house fund before a large client block order is traded is specifically prohibited under MiFID,' Jones says. This rule will have greater ramifications in some countries than in others. 'Most asset managers in the UK, France and other well established jurisdictions already have policies on front-running, but is it the case in other European markets?'
Client order handling can be dealt with by effective order management systems that are configured to control when orders are kept separate and when they should be merged, and how partial fills are allocated. Some buy-side firms have high standards in this respect, never merging orders and always executing client orders before those of in-house funds. 'If you configure the order management system to control merging and allocation, you are adhering to your own policy by definition,' Jones says. 'An OMS is not compliance in itself, but it is a strong supporting tool.'
Those fixated on best execution may also have missed rules on trade and transaction reporting. 'There has always been reporting of trades via exchanges, but now off-market trades also have to be reported,' Jones says. Asset managers cannot assume that brokers will do this automatically. 'There now has to be a contract between the asset manager and the broker,' he adds. 'For off-market trades executed through non-EU brokers, asset managers will have to report trades themselves in real time.'
The requirement for next-day transaction reporting relates to requirements under MiFID to monitor and prevent market abuse and insider trading. Trades must be reported to local regulators the following day so the regulator can examine transaction history in the case of market events such as mergers and acquisitions. Says Jones: 'They might look at all trades in the weeks running up to the event to see if there is large or unusual activity by people who are likely to have relevant information.'
Where trades are carried out by EU brokers, the asset manager can rely on the latter to report the transactions as MiFID requires. An issue for EU asset managers arises where a trade for an EU security (including dual-listed securities) is executed by a non-EU broker, which is not obliged to report the transaction. 'Some asset managers are reporting to regulators all trades done through non-EU brokers, just to be sure.'
Richard Jones is chief executive of Fidessa LatentZero