A Liquidnet survey has revealed that financial firms are starting to move from static transaction cost analysis to full ‘best execution’ analysis, as ad-hoc policies give way to more systematic processes.

Liquidnet, the global institutional trading network, recently canvassed some asset management firms for their views about how to achieve ‘best execution’ in accordance with the European Union’s second Markets in Financial Instruments Directive or MiFID II.

The study found that just 6% of people in the survey believed that they were ready to execute trades in the best way possible for their customers, as the directive dictates. 61% of them had ‘best execution’ policies of some sort or other and knew that they needed to provide more granular detail about various things in them. One-third of them said that they were planning to make changes to trading workflow and more than one-quarter were investing in ‘technology’ (presumably information technology or IT) with the express intention of making their approaches to ‘best execution’ more systematic.

Liquidnet says on its website: “Best execution no longer means a mere ‘look back and check’ on the outcome of an individual order. It is now the creation and implementation of a process that enables the trader to be in possession of as much valuable information as possible, throughout the life-cycle of a trade. This information allows traders to adapt execution strategies that protect against adverse market conditions, or benefit from opportunities as they arise.”

Although transaction cost analysis has been the traditional thing that asset managers use to measure ‘best execution,’ the industry has begun to see a shift towards a more holistic type of analysis that includes transaction cost analysis as a mere subset. This allows trading desks to understand and measure the full context of larger orders (and analyse ‘high touch’ and fixed-income trading) much better.

Highlights from the research

• 70% of asset managers are now looking outside their traditional relationships with brokers and evaluating new providers of liquidity. One-third of them plan to adjust their lists of brokers before January, when the mega-law comes into force.
• Access to liquidity remains the most important requirement for 69% of respondents while they are selecting execution partners, but firms are taking divergent routes when they choose to “access liquidity” because ‘unbundling,’ the process by which research fees are transparently reported and detached from trade execution fees, demands a strategic re-think of which brokers to engage with, as well as where to trade.
• 64% believe that they have ‘cohesive’ strategies for making results better for clients but more than one-third of respondents still have more to do to move their policies from an informal attempt to make their ‘best-efforts’ to a firm-wide systematic execution process.
• More than two-thirds are no longer choosing where to trade by broker alone; 35% now select by strategy only with a further 33% using a combination of both strategy and broker.

More insights from the report

• 85% of respondents admitted that firms could do more internally to improve their performance during execution. ‘Buy side’ firms are focusing on adverse venue selection or improving opportunity cost lost through adjustments to workflows such as PM timing, rather than just hoping that their brokers will help them execute trades better.
• The lack of a viable transaction cost analysis product ‘in fixed income’ is leading 39% of firms to rethink their use of transaction cost analysis to execute trades well, particularly when considering over-the-counter products.
• The ripples of MiFID II will extend beyond the borders of the countries of the European Union. Clients around the globe are demanding more detailed evidence of best execution before, at and after trades take place.

Survey methods

Liquidnet’s ‘best execution’ survey was designed to find out how well firms are moving from ad-hoc generic policies to proper operational processes. The results from the survey are based on 55 detailed interviews with heads of trading/dealing across Liquidnet’s member network of asset management firms throughout North America and Europe. Participants were polled during April and May 2017, with 58% respondents from the UK, 25% from Continental Europe, and 16% from the US.