Trade reconstruction, which involves pulling together many different streams of data for the purposes of recreating activity around a specific trade, was once a compliance and IT issue. With the explosion of electronic data, it has now become a potentially massive endeavor for financial firms, requiring participation from numerous parts of the organization including compliance, operations, trading, technology, and even the executive suite.
Driven in large part by recent regulations such as the Dodd-Frank Act and MiFID II, firms today need to demonstrate that they can meet a broad range of record-keeping requirements, and that they can deliver pre- and post-trade data in a timely and efficient manner. MiFID II adds an extra wrinkle because it requires firms to pull order information showing the intention of each trade, rather than just data on executed trades. The 72-hour rule mandated by the CFTC, requiring swap dealers to respond to regulator requests within three business days, further complicates things and is forcing firms to ramp up their compliance efforts, especially as it relates to trade reconstruction.
Here are the three stages involved in managing a trade reconstruction project:
Stage 1: Put the Business In the Drivers Seat
The first stage of any trade reconstruction project, or any project for that matter, is identifying who should take the lead. In the past, the technology team typically led the charge when it came to building and implementing solutions around different regulations because they were the ones who best understood the data and how to capture it. However, regulations today are much more complex. That’s why it’s important for the compliance and technology departments to operate as a team and share joint responsibility for seeing the project through to completion.
While the CCO and CTO or CIO will be tasked with the day-to-day business process and the maintenance of the system, it’s also important for them to have the buy in of the rest of the C-suite. It’s common for projects of this scale to run into problems and delays, and having the support of the CEO, COO, or the Head of Trading will signal to the rest of the firm that regulation conformity is a priority.
Stage 2: Collect and Analyze the Data
The next stage is understanding where all the data is located and how it is being consumed. Collecting communications data (i.e., emails, phone calls, etc.) tends to be straightforward because most email and phone record systems have built-in functionalities that allow for the easy searching and sharing of data. However, collecting trading data can be much more complicated because there are so many disparate sources of information, and the different systems don’t always communicate with one another. For example, trading desks that focus on swaps may have different reporting systems than trading desks that focus solely on stocks and bonds. Centralizing all this data is an important step in making a trade reconstruction project successful.
Stage 3: Develop and Enforce Firm-Wide Policies
The final stage involves instituting policies around the construction of the firm’s data management platform – specifically, making sure that all the required data and trade information is both recorded and saved in the appropriate place so that the compliance team can find it when needed. For example, with MiFID II, financial firms need to keep track of any material related to a trade event, including industry or company research reports. Every trader has a different way they like to receive and save these reports. But for a trade reconstruction project to be successful there needs to be a consistent firm-wide policy as to where and how these reports are saved. The same is true of all other data. Once these policies are in place, firms should strongly consider hosting regular training sessions for staff to make sure everyone is aligned.
Challenges Your Firm May Face
Different firms face different challenges when it comes to a trade reconstruction project. Larger sell-side firms have invested heavily in technology and likely have a head start when it comes to understanding data within their organization. However, they also face an increased level of complexity—and higher costs—because of the sheer amount of data and individuals involved. According to a SourceMedia online poll of 50 bank CIO’s and senior technology executives, more than half plan to increase their tech spending on data analytics and compliance in 2016. These firms also likely trade many different types of financial instruments across different geographies, meaning there needs to be consistent communication across all levels of the organization about how trades should be executed and how pre- and post-trade data should be stored.
Smaller buy-side firms likely haven’t invested as much in technology and therefore have more work to do to meet current regulations. Another recent study by Aite Group, a financial research and advisory firm, projected vendor IT spend on market surveillance and trade compliance to increase to $513 million in 2016 (up from $460 million in 2015), $559 million in 2017, and $593 million in 2018, In addition to these costs, some buyside firms may lack the internal resources to institute and enforce data-related policies and may want to bring on additional staff or an outside vendor for the sole purpose of searching and collecting data in response to trade reconstruction related inquiries.
Another challenge facing both sell-side and buy-side firms is how to incorporate supporting documentation or materials that may not be accessible on the server or a part of the compliance platform, such as hard copies of notes from calls with research analysts, or notes from internal trader meetings. These documents may contain potentially valuable information related to a trade, but few firms have a system in place for how to make sure all materials are properly saved and easily accessible. Mobile phone apps that can automatically scan and upload documents may represent one potential solution, however even the best apps carry security concerns and are not always reliable.
Building an effective framework for managing trade reconstruction projects is an important first step in readying firms for compliance with various financial regulations. Businesses that get it right have an opportunity to avoid unwanted regulatory attention. Those firms that delay, however, will face a significantly larger hurdle when it comes time to comply.