What Are the Key Differences in Best Execution Requirements between MiFID I and MiFID II?

Concept

From a Mandate of Process to a System of Proof

The transition from the Markets in Financial Instruments Directive (MiFID I) to its successor, MiFID II, represents a fundamental re-architecting of the regulatory philosophy governing European financial markets. For the institutional participant, this was not a subtle recalibration. It was a seismic shift in the very definition of operational diligence. MiFID I established the foundational principle of “best execution,” requiring firms to take “all reasonable steps” to obtain the best possible result for their clients.

This initial framework, while groundbreaking, was largely a mandate of process. It required firms to establish and follow an execution policy, but the evidentiary burden to demonstrate the consistent achievement of optimal outcomes was less severe. The system was predicated on the existence of a sound methodology, with the assumption that a well-designed process would naturally lead to the desired result.

MiFID II dismantled this paradigm. It elevated the standard from “all reasonable steps” to “all sufficient steps,” a seemingly minor semantic change that carried profound operational weight. This new language moved the locus of regulatory scrutiny from the design of the execution policy to the measurable quality of the outcomes themselves. Sufficiency implies a higher, more demanding standard of proof.

It requires an investment firm to demonstrate, with granular data and rigorous analysis, that its execution strategy is not just well-conceived but empirically effective and consistently delivering the best possible result for the end client. The directive expanded the universe of factors to be considered ▴ price, costs, speed, likelihood of execution, and settlement, among others ▴ and demanded that their relative importance be dynamically weighed based on the specific characteristics of the client, the order, and the instrument.

The core evolution from MiFID I to MiFID II was the pivot from documenting a reasonable process to substantiating a sufficient and superior outcome with empirical data.

This evolution can be viewed through the lens of a system designer. MiFID I provided the schematic for a functional machine, outlining the necessary components and their intended interactions. A firm could achieve compliance by demonstrating that it had built the machine according to the specifications. MiFID II, in contrast, demanded a continuous stream of performance telemetry from that machine.

It was no longer enough to show that the system was built correctly; a firm now had to provide a complete audit trail of its performance, proving that it was operating at peak efficiency for every single transaction. This created a new imperative for investment in data capture, analytical capabilities, and the technological infrastructure required to support a far more demanding governance and reporting framework.

Expanding the Execution Universe

A defining feature of the MiFID II framework is the significant expansion of the scope of financial instruments and execution venues subject to best execution requirements. MiFID I’s focus was predominantly on equities traded on regulated markets and Multilateral Trading Facilities (MTFs). While other asset classes were technically in scope, the lack of price transparency and available data made proving best execution in non-equity markets a theoretical exercise rather than a practical requirement. The system’s architecture was designed for a world of lit, centralized equity markets.

MiFID II shattered these boundaries, extending the full force of the best execution doctrine to a much wider array of instruments, including bonds, structured finance products, and derivatives. This expansion was coupled with a formal recognition of a more fragmented and diverse landscape of liquidity sources. The directive explicitly brought Organised Trading Facilities (OTFs) ▴ a new category of venue primarily for non-equity instruments ▴ and Systematic Internalisers (SIs) into the regulatory perimeter. This acknowledged the reality of modern market structure, where a significant volume of trading occurs away from traditional exchanges.

For an institutional trader, this meant the field of play was suddenly much larger and more complex. The obligation to seek the best outcome now required a comprehensive and data-driven evaluation of a much broader set of potential execution venues, each with its own unique characteristics, costs, and liquidity profile. The simple act of routing an order became a far more complex strategic decision, demanding a sophisticated understanding of a multi-layered market ecosystem.

Strategy

The New Mandate for Transparency and Data

The strategic implications of MiFID II’s best execution requirements are most profoundly felt in the directive’s relentless focus on transparency and data. Where MiFID I required firms to have a policy, MiFID II demands that the policy be alive, breathing, and justified by a constant flow of empirical evidence. This transformed best execution from a compliance function into a core strategic competency, deeply integrated with trading, technology, and client relations. The most significant strategic shift was the introduction of extensive new disclosure requirements, designed to make the execution process transparent to both regulators and clients.

This is most clearly embodied in the RTS 27 and RTS 28 reporting obligations. Although RTS 27 has since been removed, its initial impact, along with the continuing RTS 28 reports, fundamentally altered the strategic landscape.

• RTS 27 Reports ▴ These required execution venues to publish detailed quarterly reports on the quality of execution achieved on their platforms. The data included granular information on price, costs, and likelihood of execution for individual financial instruments. While no longer a requirement, its spirit lives on in the increased expectation for venue analysis.
• RTS 28 Reports ▴ This ongoing requirement mandates that investment firms publicly disclose, on an annual basis, the top five execution venues they used for each class of financial instrument, for both retail and professional clients. Firms must also provide a summary of their analysis and the conclusions drawn from their detailed monitoring of the execution quality obtained.

These reporting requirements forced firms to move beyond a theoretical commitment to best execution and adopt a strategy of continuous, data-driven monitoring and evaluation. A firm’s choice of execution venues could no longer be based on historical relationships or qualitative assessments. It had to be defended with quantitative data, demonstrating that the chosen venues consistently delivered superior results. This necessitated a significant investment in data analytics and Transaction Cost Analysis (TCA), transforming TCA from a post-trade review tool into a critical component of pre-trade decision-making and strategic planning.

A Comparative Framework MiFID I Vs MiFID II

To fully grasp the strategic realignment required, it is useful to compare the core tenets of the two directives side-by-side. The table below illustrates the escalation in requirements, moving from a principles-based approach to a prescriptive, evidence-based framework.

MiFID II compels firms to shift their strategic focus from merely having a compliant execution policy to operating a dynamic, data-centric system that actively proves its own effectiveness.

Rethinking the Execution Policy

Under MiFID I, the order execution policy was often a static, high-level document. MiFID II transformed it into a detailed, dynamic, and client-centric operational guide. The new requirements mandated that policies be customized for each class of financial instrument, recognizing that the factors determining best execution for a liquid equity are vastly different from those for an OTC derivative. The policy must clearly explain how the firm will weigh the different execution factors (price, cost, speed, etc.) for different types of orders and clients.

It must also identify the specific venues that will be used for each instrument class and provide a clear justification for their inclusion. This level of detail requires a much deeper strategic engagement with market structure and a more sophisticated approach to policy design and maintenance. The policy is no longer a document to be filed away; it is the central nervous system of the firm’s execution strategy, subject to regular review, testing, and enhancement in response to changing market conditions and performance data.

Execution

The Operationalization of “all Sufficient Steps”

Translating the MiFID II mandate of “all sufficient steps” into a concrete operational framework requires a systematic and technology-driven approach. The execution of this principle hinges on a firm’s ability to monitor, measure, and prove the quality of its execution on an ongoing basis. This is not a periodic review but a continuous, integrated process that touches every stage of the trade lifecycle. At its core, the operational challenge is to build a robust feedback loop where execution data informs and refines execution strategy in near real-time.

The operational workflow can be broken down into several key stages, each with enhanced requirements under MiFID II:

1. Pre-Trade Analysis ▴ Before an order is even placed, the system must be capable of evaluating potential execution strategies against the best execution criteria. This involves using sophisticated TCA models to estimate potential market impact, slippage, and total cost for various routing options. The choice of venue and algorithm must be justifiable based on the specific characteristics of the order and prevailing market conditions.
2. Intelligent Order Routing ▴ The execution management system (EMS) or order management system (OMS) must be configured to access the full range of permissible execution venues. Smart order routers (SORs) become critical tools, dynamically seeking liquidity across lit markets, dark pools, OTFs, and SIs based on pre-defined logic that aligns with the firm’s execution policy. The SOR’s logic must be regularly reviewed and tested to ensure it is performing optimally.
3. Post-Trade Analysis and Monitoring ▴ This is where the evidentiary burden of MiFID II is most acute. Firms must systematically capture and analyze execution data for every trade. This analysis must compare the achieved execution price against a variety of benchmarks (e.g. VWAP, TWAP, arrival price) to calculate slippage and other performance metrics. The results of this TCA must be used to evaluate the performance of execution venues, brokers, and internal algorithms.
4. Governance and Reporting ▴ The entire process must be overseen by a formal governance structure. This includes regular meetings of a best execution committee to review TCA reports, assess venue performance, and approve any necessary changes to the order execution policy. The output of this process provides the qualitative and quantitative data required for the annual RTS 28 report.

A Deeper Dive into Venue and Broker Analysis

A critical operational task under MiFID II is the rigorous and evidence-based selection and monitoring of execution venues and brokers. Firms must be able to demonstrate why a particular venue or broker was chosen and provide proof that this choice leads to consistently better outcomes for clients. This requires a multi-faceted analysis that goes far beyond simple volume metrics.

The operational core of MiFID II best execution is a data-driven, systematic evaluation of all available liquidity sources against a multi-dimensional set of performance criteria.

This level of analysis requires a sophisticated data infrastructure capable of capturing, normalizing, and processing vast amounts of market and execution data. Firms must invest in TCA systems, either built in-house or sourced from specialist vendors, that can provide the necessary analytics and reporting capabilities. The output of these systems is the raw material for the best execution committee, enabling it to make informed, defensible decisions about the firm’s execution arrangements.

The process is cyclical ▴ data leads to analysis, analysis leads to decisions, decisions are implemented, and the results are measured through new data, beginning the cycle anew. This continuous loop is the very essence of executing on the MiFID II best execution mandate.

Reflection

Execution Quality as a Persistent Strategic Asset

The transition from MiFID I to MiFID II was more than a regulatory update; it was an enforced maturation of the market’s operational consciousness. The frameworks and systems built to satisfy the directive’s requirements ▴ the data repositories, the analytical engines, the governance committees ▴ should not be viewed as mere compliance infrastructure. They represent a strategic asset. The capacity to systematically measure, analyze, and optimize execution quality is a durable competitive advantage.

As markets continue to evolve, driven by technological innovation and new regulatory pressures, the principles embedded in MiFID II provide a robust blueprint for navigating future complexity. The ultimate objective is not simply to satisfy a regulator, but to build an execution framework so empirically sound and transparent that it becomes a cornerstone of client trust and a driver of superior performance. The question for any institution is how this system of intelligence can be leveraged beyond compliance to create a lasting operational edge.