Exploring the business side of Systematic Internalisation

By Jonas Lindqvist, Principal Trading and Trade Execution, Itiviti
October 9, 2018
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Nine months into the MiFID II era, it’s time to look beyond the compliance issues and start considering the business opportunities presented to firms operating under the Systematic Internaliser regime. With the support from a value-adding regulatory solution, SI status can be used for competitive advantage, suggests Jonas Lindqvist, Principal, Trading and Trade Execution, Itiviti.

When preparing for, and immediately following the introduction of MiFID II in January 2018, firms were mainly concerned with achieving basic compliance. As this was a critical requirement and time was scarce, adjusting to the new regulation often dictated using interim solutions solely designed with this objective in mind. Such solutions involved workarounds for meeting the criteria, with little regard to performance, functional or qualitative aspects.

More importantly than being awkwardly engineered, such interim solutions also lack a value-add factor. They were not designed to help firms serve themselves or their clients any better than prior to MiFID II coming into play.

With the experiences gained since the beginning of the year and compliance ensured, firms can now approach MiFID II, and particularly the Systematic Internaliser (SI) regime, with a more positive mindset. It’s time for firms to look closer at the business-enhancing opportunities presented by the regulatory environment, including improved trading strategies and a much higher level of automation.

Benefits of improving internalisation
In the wake of MiFID II, many new SIs have appeared, displaying a multitude of business models and ways to interact. Some firms have found that internalisation levels are reaching the SI thresholds and that they need to register as SIs to continue their businesses. Others have actively decided to be SIs for the purpose of better serving their customers.

As an SI customer, you interact with liquidity that may show different characteristics depending on the SI’s business model. Understanding what type of SI you are dealing with is helpful, and tuning Smart Order Routers accordingly is a good idea.

Firms involved in lower scale internalisation will also evaluate and reconsider their business models, and their needs will dictate how they go about it. They may even elect to make use of the same tools as SIs without having formal SI status or being subject to all of the regulatory requirements, since these can help make the internalisation process more efficient and simplify record keeping. Also, by having some of the technology installed, you may ease in and later decide if and when to become an SI. Becoming more efficient is another positive side effect.

Multi-asset becoming the norm
The ESMA database shows that the majority of SIs are registered for more than one asset class category. When threshold numbers are presented for derivatives, this share is likely to grow further. This highlights the benefits of using technology which allows for workflows and trading styles that fit different asset classes. Not everything should be modelled around equities.

Many SIs started out using a ‘minimalist’ approach to compliance in order to continue business as usual. For example, by quoting relevant but non-attractive prices in liquid shares for pre-trade transparency, then manually facilitate with price improvements without further transparency. Some of these designs appear to rely on flexible interpretations of the rules, and don’t contribute to the price discovery process as intended by the regulation. Maintaining the old order of internalisation, for the sake of convenience, also precludes taking full advantage of the opportunities.

Now we are getting to a point where firms can address the SI regime as a business enabler. At least indirectly so, by leveraging regulatory solutions which promise more than compliance. Aside from automation and improving various flows, there are many opportunities to enhance customer service. This is where the real fun starts, with innovation for adding value instead of workarounds just to comply. And with the right technology, this isn’t necessarily as hard as it might sound.

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