Much has been made of the impact of MiFID II on the European financial market structure and the core activities of market participants. Less visible, though, is the regulation’s prescriptive approach to categorization of certain market activities. This categorization governs how firms behave with respect to order flow, client classification, trading volume caps and other aspects of their business.
Firms are struggling to establish their data coverage in a few key areas, among them product set-up, and pre- and post-trade transparency, where MiFID II’s decision trees dictate how trading firms operate. All financial instruments traded need to be registered with the European Securities and Markets Authority (ESMA), along with any required reference or metadata. Thus, any firm issuing new instruments will need to register those products.
At the same time, any firm intending to act as a market-maker in any given instrument needs to ensure the product is registered with ESMA or with the firm’s National Competent Authority (NCA) and set up the instrument in their security master with all associated reference data.
Meanwhile, under MiFID II’s pre-trade transparency requirements, trading venues and systematic internalisers need to provide price transparency for the instrument pre-trade and trade unless a waiver can be applied. Reference data is needed to apply the appropriate waiver, or to indicate whether a security is Liquid, or that the order is Large in Scale (LIS), relative to the market, or larger than Size Specific to Instrument (SSTI).
To navigate the MIFID II decision trees, the liquidity flags, waivers, thresholds and deferral periods that define their activities and how they need to administer them under MiFID II, firms need to ensure they have the required reference data in place. MiFID II lays out a specific set of reference data required for compliance. These include the use of:
- The global Legal Entity Identifier (LEI) for instrument identification
- The International Securities Identification Number (ISIN) for securities identification
- Derivatives identifiers from the Association of National Numbering Agencies’ (ANNA) Derivatives Service Bureau (DSB)
- Market identification codes (MICs)
- Instrument classifications (ISO 10962)
- Currency codes (ISO 4217), and
- Classification of instruments in terms of liquidity, trade size and other parameters.
Between them, these impact how any given security is handled under MiFID II and MiFIR. To get the classification right, firms must have processes in place for sourcing and managing the specific metadata sets needed for correct instrument and entity definitions. To aid in firms’ compliance, the European Securities and Markets Authority (ESMA) is developing its own Financial Instruments Reference Data System (FIRDS), which is designed to carry a superset of all instruments to be regulated across the EU. FIRDS will hold reference data relating to the entire set of banks, exchanges and OTC trading venues operating within the EU under MiFID II, and all instruments, issuers and counterparties.
Although details of how this will all work remain sparse, FIRDS’s stated remit is to collect and publish reference data efficiently and in a harmonised way across the EU in support of market participants’ MiFID II compliance activities. Once developed, the system will contain data covering all financial instruments within the scope of MiFID II.
Under MiFIR, all trading venues and Systematic Internalisers must submit instrument reference data in a uniform format to NCAs, which are then required to deliver that data to ESMA, although some NCAs have delegated data collection to ESMA. FIRDS will link data feeds between ESMA, NCAs and approximately 300 EU trading venues. The data will be published by ESMA, but will also be used to calculate transparency and liquidity thresholds, and position reporting of commodity derivatives.
FIRDS will act in essence as a consolidated source of MiFID II reference data. Financial institutions need to be able to receive and consume the subset of the FIRDS database that is relevant to its customers and activities.
To ensure consistency, therefore, firms will need to map FIRDS and other external data sets with appropriate internal data sets to ensure compliance. This multiple sourcing in turn requires cross-referencing to ensure like-for-like comparisons and consistency. MiFID II requires massive amounts of data to be collected, normalized, analysed and presented in a user-friendly way.