What Are the Core Technological Components Required for a MiFID II Compliant RFQ Workflow?

Concept

The Markets in Financial Instruments Directive II (MiFID II) represents a fundamental restructuring of European financial markets. At its heart, it is a framework for creating a more transparent, efficient, and resilient financial system. For those of us who operate within the intricate machinery of institutional trading, MiFID II is more than a set of rules; it is a system-level intervention that has profound implications for how we source liquidity, manage risk, and demonstrate best execution. The request-for-quote (RFQ) workflow, a cornerstone of bilateral trading for centuries, has been brought into the regulatory spotlight, forcing a rethink of the technological infrastructure that underpins it.

A MiFID II compliant RFQ workflow is a complex ecosystem of interconnected technologies designed to meet the directive’s stringent requirements for pre-trade transparency, post-trade reporting, and best execution. It is a system that must be able to capture, store, and analyze vast amounts of data, while also providing a seamless and efficient user experience for traders. The core technological components of such a system are not simply a collection of disparate applications; they are a tightly integrated suite of tools that work together to create a compliant and competitive trading environment.

A MiFID II compliant RFQ workflow is a data-intensive, highly regulated, and technologically advanced system for sourcing liquidity and executing trades.

The directive’s impact on the RFQ process is particularly acute in the non-equity space, where much of the trading has historically been conducted over-the-counter (OTC). MiFID II has brought a new level of scrutiny to these markets, requiring firms to take “all sufficient steps” to obtain the best possible result for their clients. This has created a demand for more sophisticated RFQ platforms that can provide detailed audit trails, comprehensive data analytics, and robust reporting capabilities.

The technological response to MiFID II has been a wave of innovation, with firms investing heavily in new trading platforms, data management systems, and compliance tools. The result is a more complex and fragmented market structure, but also one that is more transparent and competitive. For institutional investors, navigating this new landscape requires a deep understanding of the underlying technology and a clear-eyed assessment of the various solutions on offer.

What Are the Core Technological Components?

The core technological components required for a MiFID II compliant RFQ workflow can be broadly categorized into four key areas ▴ order management, connectivity, data management, and compliance. Each of these areas presents its own unique set of challenges and requires a specific set of technological solutions. The following sections will explore each of these areas in greater detail.

Order Management Systems

An order management system (OMS) is the central hub of any trading operation. It is the system that traders use to enter, manage, and monitor their orders. In a MiFID II compliant RFQ workflow, the OMS must be able to handle the complexities of multi-venue, multi-asset trading, while also providing the necessary tools for pre-trade transparency and best execution. This includes features such as:

• Systematic Internaliser (SI) determination ▴ The OMS must be able to determine whether the firm is acting as a systematic internaliser for a particular instrument, and if so, to apply the relevant pre-trade transparency requirements.
• Pre-trade transparency checks ▴ The OMS must be able to check whether a trade is subject to pre-trade transparency requirements, and if so, to ensure that the necessary information is made public.
• Best execution monitoring ▴ The OMS must be able to capture and store all of the data required to demonstrate best execution, including quotes received, execution prices, and timestamps.

Connectivity

Connectivity is the lifeblood of any modern trading operation. It is the infrastructure that connects the firm to its clients, its liquidity providers, and the wider market. In a MiFID II compliant RFQ workflow, connectivity must be fast, reliable, and secure.

It must also be able to support the various protocols and messaging standards used by different trading venues and liquidity providers. This includes:

• FIX Protocol ▴ The Financial Information eXchange (FIX) protocol is the industry standard for electronic trading. A MiFID II compliant RFQ workflow must be able to support the latest version of the FIX protocol, as well as any custom extensions used by specific venues or liquidity providers.
• APIs ▴ Application programming interfaces (APIs) are becoming increasingly important for connecting to a wide range of different systems and services. A MiFID II compliant RFQ workflow must be able to support a variety of different APIs, including RESTful APIs and WebSocket APIs.
• Market data feeds ▴ A MiFID II compliant RFQ workflow must be able to consume and process a wide range of different market data feeds, including real-time data from trading venues and historical data from data vendors.

Strategy

The strategic implementation of a MiFID II compliant RFQ workflow is a complex undertaking that requires a deep understanding of the regulatory landscape, the available technology, and the firm’s own business requirements. The goal is to create a system that is not only compliant with the regulations, but also provides a competitive advantage in the marketplace. This requires a holistic approach that considers all aspects of the trading lifecycle, from pre-trade analysis to post-trade reporting.

One of the key strategic decisions that firms must make is whether to build their own RFQ platform or to buy a solution from a third-party vendor. Both approaches have their own advantages and disadvantages. Building a proprietary platform provides the firm with complete control over the technology and the ability to customize the system to its own specific requirements.

However, it also requires a significant investment in time, money, and resources. Buying a solution from a vendor can be a more cost-effective and efficient option, but it may not provide the same level of flexibility and control as a proprietary platform.

The choice between building and buying a MiFID II compliant RFQ platform is a strategic one that depends on a variety of factors, including the firm’s size, complexity, and business objectives.

Another important strategic consideration is the firm’s approach to data management. MiFID II has created a massive new data burden for firms, requiring them to capture, store, and analyze vast amounts of information. This data is not only required for compliance purposes, but it can also be used to gain a competitive advantage in the marketplace. Firms that are able to effectively manage and analyze their data will be better able to identify trading opportunities, optimize their execution strategies, and provide a higher level of service to their clients.

How Can Firms Develop a Competitive Advantage?

In the post-MiFID II world, a compliant RFQ workflow is no longer a source of competitive advantage; it is a basic requirement for doing business. The real opportunity for differentiation lies in how firms leverage their technology and data to create a superior trading experience for their clients. This can be achieved in a number of ways, including:

• Providing enhanced pre-trade analytics ▴ By providing clients with access to sophisticated pre-trade analytics tools, firms can help them to make more informed trading decisions and to achieve better execution outcomes.
• Offering a wider range of execution options ▴ By offering clients a wider range of execution options, such as algorithmic trading strategies and direct market access (DMA), firms can help them to find the most appropriate execution method for their specific needs.
• Delivering superior post-trade analysis ▴ By providing clients with detailed post-trade analysis and transaction cost analysis (TCA) reports, firms can help them to understand the true cost of their trading and to identify areas for improvement.

The following table provides a comparison of the different strategic approaches that firms can take to developing a MiFID II compliant RFQ workflow:

Execution

The execution of a MiFID II compliant RFQ workflow is a complex process that involves a number of different steps, from the initial request for a quote to the final settlement of the trade. Each of these steps must be carefully managed to ensure that the trade is executed in a compliant and efficient manner. The following sections will provide a detailed overview of the key steps involved in the execution of a MiFID II compliant RFQ workflow.

Pre-Trade

The pre-trade phase of the RFQ workflow is all about preparation. It is during this phase that the trader will gather all of the information they need to make an informed trading decision. This includes analyzing the market, identifying potential liquidity providers, and determining the most appropriate execution strategy. The key steps in the pre-trade phase are as follows:

1. Market analysis ▴ The trader will analyze the market to identify any potential trading opportunities. This will involve looking at a variety of different factors, including price, volatility, and liquidity.
2. Liquidity provider selection ▴ The trader will identify a list of potential liquidity providers that they can send the RFQ to. This will be based on a variety of different factors, including the liquidity provider’s reputation, their pricing, and their ability to handle the size of the trade.
3. Execution strategy determination ▴ The trader will determine the most appropriate execution strategy for the trade. This will depend on a variety of different factors, including the size of the trade, the liquidity of the market, and the client’s risk appetite.

Trade

The trade phase of the RFQ workflow is where the actual execution of the trade takes place. It is during this phase that the trader will send the RFQ to the selected liquidity providers, receive their quotes, and then execute the trade with the best one. The key steps in the trade phase are as follows:

1. RFQ submission ▴ The trader will submit the RFQ to the selected liquidity providers. The RFQ will contain all of the relevant information about the trade, including the instrument, the size, and the desired price.
2. Quote reception ▴ The trader will receive quotes from the liquidity providers. The quotes will be displayed on the trader’s screen in real-time, allowing them to compare the different prices and to choose the best one.
3. Trade execution ▴ The trader will execute the trade with the liquidity provider that has offered the best price. The trade will be executed electronically, and the trader will receive a confirmation of the trade almost instantly.

Post-Trade

The post-trade phase of the RFQ workflow is all about clearing, settlement, and reporting. It is during this phase that the trade will be confirmed, the funds will be transferred, and the necessary reports will be generated. The key steps in the post-trade phase are as follows:

1. Trade confirmation ▴ The trade will be confirmed with the liquidity provider. This will involve both parties agreeing on the terms of the trade, including the price, the size, and the settlement date.
2. Clearing and settlement ▴ The trade will be cleared and settled. This will involve the transfer of the funds and the securities between the two parties.
3. Reporting ▴ The trade will be reported to the relevant regulatory authorities. This will involve submitting a detailed report of the trade, including all of the relevant information about the trade.

The following table provides a summary of the key data points that must be captured and stored for each trade:

Reflection

The implementation of a MiFID II compliant RFQ workflow is a significant undertaking, but it is also an opportunity for firms to re-evaluate their trading operations and to identify areas for improvement. By taking a strategic approach to the implementation process, firms can create a system that is not only compliant with the regulations, but also provides a competitive advantage in the marketplace. The key to success is to focus on the three pillars of a successful trading operation ▴ technology, data, and people. By investing in the right technology, by effectively managing and analyzing their data, and by empowering their people with the right tools and training, firms can build a trading operation that is fit for the future.

What Is the Future of RFQ Trading?

The future of RFQ trading is likely to be shaped by a number of different factors, including technological innovation, regulatory change, and the evolving needs of institutional investors. One of the key trends that is likely to continue is the move towards greater automation and electronification. As technology continues to advance, we are likely to see more and more of the RFQ workflow being automated, from the initial request for a quote to the final settlement of the trade. This will help to reduce costs, improve efficiency, and minimize the risk of errors.

Another key trend that is likely to shape the future of RFQ trading is the growing importance of data. As firms collect more and more data about their trading activities, they will be able to use this data to gain a deeper understanding of the market and to make more informed trading decisions. This will help them to optimize their execution strategies, to identify new trading opportunities, and to provide a higher level of service to their clients.