What is MiFID?
The Markets in Financial Instruments Directive (MiFID) is an EU Directive that comes into effect on 1 November 2007, replacing the existing Investment Services Directive (ISD). MiFID extends the coverage of the Investment Services Directive and introduces new and more extensive requirements, particularly concerning firms’ internal organisation and the way they conduct business.
The aim of the Directive is to improve service provision across European borders, particularly in terms of improved market transparency, accountability and protection for investors. It does away with the idea that trading has to be done through exchanges. For example, currently many banks trade shares ‘off-book’, which means they move shares they are holding between customers that want to buy and sell. Firms will now have to have processes and systems in place so they can prove ‘best execution’ on all deals, and they will have to keep all necessary records for five years. This is a problem for firms trading ‘off-book’ as it means that even if they did act in their clients’ best interest, they may not have the records required to prove it. This will leave them open to regulatory action and to being sued by their clients in the European courts.
In order to prove ‘best execution’, firms will have to publish a lot more information and they will have to implement new MiFID-compliant business processes. This will require a modern communications infrastructure and systems that can store, and ‘reconstitute’ when required, all necessary records. ‘Reconstitution’ is a key concept that involves the ability to recall all relevant records to prove the exact context in which a trade was made.
Industry estimates forecast that MiFID compliance will cost UK firms an average of £10million for IT and £12 million for new processes, translating into an industry-wide up-front cost of £1billion. That’s just the cost for the UK. While there is wide variation in preparedness for MiFID compliance, rather worryingly a survey by SunGard and TradeTech in April this year found that only 13 per cent of financial services firms are confident that they are on track to meet new MiFID regulations. Over 60 per cent of respondents indicated that their preparations for the directive still required some work, despite the rapidly approaching November deadline.
The survey results, taken from the third in a quarterly series of polls undertaken by SunGard and TradeTech, reinforce those of an earlier poll in which over 65 per cent of respondents admitted that they were yet to even identify or plan operational budgets to meet the demands of the directive.
A survey by Finextra Research (The importance of performance: Technology and business trends in financial services 2006) found that respondents’ IT budgets were only likely to grow by 6.9 percent in 2007, which means there is something of a mismatch between the sums MiFID is expected to cost and the budgets that are currently being set aside for compliance.
What are the infrastructure constraints affecting MiFID compliance?
Firms are expending considerable effort in trying to understand the operational and technological implications of MiFID, but competition for basic physical resources such as power and space is likely to be intense – with the whole issue potentially heating up even more due to lack of air conditioning resources! Both the City of London and Canary Wharf are literally running out of space for new data centres and power resources, at the very time when they are being asked to store more records than ever before and to implement new, IT-intensive processes.
A significant number of firms are also concerned about energy consumption within data centres for other reasons. Some are considering this issue within the context of an environmental strategy or policy; while others are concerned about high energy prices both now and in the future.
One of the key issues recently thrown up is: how much will it cost to store the records required to prove ‘best execution’ for a particular trade? With the volume of data needing to be stored per trade increasing substantially, efficient data storage directly impacts the firm’s bottom line and therefore its competitiveness.
Intelligent infrastructure management (IIM) systems can also help with MiFID compliance issues. Quite often IT managers are not absolutely sure what is connected to their network because infrastructure and applications have been deployed over time without accurate records being kept. So firms do not have a clear understanding of which applications are running on which servers, or whether servers are being used efficiently. Frequently deployed servers are substantially under-utilised, but without visibility of what is going on IT managers cannot make use of this spare capacity.
IIM solutions provide the missing link between real-time network management tools and the cabling infrastructure. The key attributes of an IIM solution are automated patching and an infrastructure database. The types of benefit that result from IIM vary from case to case, depending on the business and where it is in the business cycle. However, some benefits are realised from day one – such as efficient network management. In particular, IIM contains auto-discovery functionality which provides an up-to-date picture of the network, the connected hardware and the applications deployed on it.
IIM could provide a vital short term solution to the physical infrastructure constraints faced by firms seeking to become MiFID compliant, by enabling them to switch off redundant equipment and make better use of spare capacity. In the longer term it will enable enhanced security and more cost-effective infrastructure management, reducing the cost to the business.
MiFID’s implications depend on where you are starting from MiFID will not affect firms uniformly. “MiFID acts like a flat tax,” says Jitz Desai, author of MiFID: The Roadmap to Implementation, a recent white paper from financial services industry think-tank JWG-IT, “the smaller you are, the more likely you are to be reliant on third parties for your infrastructure needs. Without appropriate infrastructure, less flexibility in operating models is possible and hence, any changes to incorporate MiFID’s thousands of requirements will hurt more.” Desai emphasises the critical issue of transaction volumes: “Firms will need to cope with ever increasing transaction volumes, be able to share their data with the outside world, act on this data in everybody’s best interest, and store and monitor it all within milliseconds. This will be extremely challenging to the firm’s internal and external infrastructure. But firms will have to rise to the challenge because the bottom line is that transaction speed and associated relative latency will offer significant competitive advantage.”
The authors of the Finextra survey note, however, that the ability to efficiently analyse data is of particular concern to firms, with 25 percent of respondents saying they experience bottlenecks on a regular basis, and 35 percent reporting major risk computation issues due to processing power limitations.
The cost to an individual firm of becoming MiFID-compliant will depend on its starting point – that is, the state of its legacy systems and IT infrastructure. Firms that have a robust infrastructure, which has been designed to accommodate change and growth, and which enables interoperability between systems, will find it easier to achieve MiFID-compliance than those that have inadequate systems based on aging infrastructure with data trapped in multiple silos.
While infrastructure issues are largely solvable, the main constraint is the lack of time before ‘M’ day. New, green, efficient data centres may provide a firm foundation for MiFID-compliance, and support storage and retrieval at an acceptable cost, but they cannot be built overnight. So if you are one of those firms lucky enough to be sitting on such data centre nirvana you can afford to feel a little smug at your forethought. For the rest, the window of opportunity to resolve infrastructure issues is a tight one and closing fast. A vital lifeline though is offered by IIM, which can help alleviate some of the physical constraints by freeing up existing infrastructure and helping firms make better use of what they already have.
MiFID implications at a glance
• MiFID is a discontinuum in the market offering competitive advantage to those firms who embrace change and can react quickly.
• Infrastructure issues underpin a firm’s ability to be MiFID-compliant, providing a stable foundation for solutions and the necessary data storage.
• Infrastructure issues are in danger of being forgotten as attention is focused elsewhere (for example, on policy definition and solutions selection).
• In the short term, IIM offers a vital lifeline to help firms make better use of existing infrastructure.
• In the longer term, efficient data centers will offer competitive advantage. For example, in the form of faster transaction times and lower cost of storage of transaction records.