Making it Right, Again.
By Matteo Cassina
Matteo Cassina of Citadel Execution Services Europe comments on the development of a European consolidated tape as well as a unified concept of best execution.
The long awaited proposals on the review of the Markets in Financial Instruments Directive (MiFID) were published in October 2011. The so-called MiFID II and MiFIR proposals aim to address, among other things, changes in the European market structure and competition between trading venues. Whilst the proposals, in their current form, do not provide as much detail as market participants had hoped, they represent a unique opportunity to address fundamental issues impacting the efficient functioning of Europe’s equity markets.
The EU legislative process is such that the European Parliament and the European Council will agree their negotiating positions, before embarking on a trialogue process mediated by the European Commission. The final legislative text may not be ready for implementation until as late as 2014, but this timeframe represents a good opportunity for the rules and their impact to be given adequate consideration. In particular, the issues of best execution and consolidated tape need to be given greater prominence during this review process, if policymakers are to honour the original objectives of MiFID, protect the retail investor and ensure Europe’s equity markets become efficient and competitive.
A key benefit of regulation is that it drives standardization of behaviour but thus far, this has not materialised (in the retail broker community in relation to best execution requirements). Large institutions have the capabilities to take advantage of the proliferation of alternative trading venues and are benefitting from cost reductions by being able to execute their orders in the venue which offers the lowest price for a security at a given time. The majority of retail investors, however, are still either unaware of, or do not have, the opportunity to access alternative trading venues. This means they do not always benefit from prices equal to, or better than, those available in primary venues.
While the principle of best execution is reiterated in MIFID II, it is not included in MIFIR which means that — once again — best execution is a principle, not a rule and therefore open to interpretation at the national level. This is in stark contrast to the best execution model in the US, where the requirements to achieve best execution are much more stringent. Currently, a retail broker in Europe can chose to route all of its trading to one single venue, on the basis that it has a good commercial relationship with that venue, or that it is too costly for the broker to connect to multiple venues. The broker may choose to send all orders to a venue with the highest chance of getting the best price, without necessarily guaranteeing that it is the best price at that moment in time. This is an unfair outcome for the retail investor and MiFID II/ MiFIR proposals, regrettably, do not go far enough to redress this.
Enforcing best execution will take time and will depend on broader market harmonization, but now is the time for regulators and retail investors to demand a more compelling definition of best execution. In particular, greater clarity is required around the execution policies provided by retail brokers to their clients. These policies are documents in which retail brokers explain how their best execution obligations are fulfilled under MiFID. Trading venues and brokers should also be required to provide execution quality statistics, detailing how well they performed in achieving best execution. This much needed clarity would, for example, result in firms having to justify — to both regulators and clients — why certain trading platforms are listed on their best execution policy and, why others have been omitted. In short, how and why some orders are routed to specific venues and not to those with the best price.
Post-trade data is an important component of increasing transparency in the markets for the benefit of the retail investor, but equally important is that this data is accessible and affordable to all market participants including retail brokers and retail investors.
The provision in MiFIR to improve the quality and consistency of posttrade data via a consolidated tape is welcome. Indeed, we have long since advocated that the cost of pan —European data should not remain beyond the reach of ordinary retail investors. Today, the lack of an EU consolidated tape means that market data is not available on an aggregated basis to retail investors.
As a result, this prevents them from understanding whether best execution is being achieved. Again, this is an area where Europe lags behind the US since a consolidated tape on a utility basis is already available in the US market, although it is not without its imperfections.
The European Commission is now proposing a mandated tape as one of the measures aimed at improving consistency and quality of market transparency, as well as reducing the cost of data. Mandating a consolidated tape, however, is not enough. It will also need to be robust, free on a delayed basis for all users — including retail investors — and supervised by an industry body.
The remodelling of the European equities landscape since 2007 has resulted in increased competition, greater transparency and, in many ways, encouraged a better understanding of the functioning of the equities market for policymakers, institutions, intermediaries, end investors and media commentators. However, in order to achieve the goal of the protection of the end investor, further changes to MiFID II/MiFIR will be needed over the coming months.