MIFID II: Unbundling and Outsourced Trading


By Tim O’Halloran

As implementation of European Union’s Markets in Financial Instrument Directive II (MiFID II) draws near, unbundling – the separation of research and trading – is taking greater hold. In the U.S., we have seen a number of mergers, closings and downsizings over the past year as the sell-side positions its business accordingly.

At Tourmaline, we see these trends in our own business, through an increase in the demand for outsourced or expert trading resources from managers of all sizes. In the first of two articles, we examine how regulation and market forces will lead the buy-side to rethink research and execution.

Industry Trends around Acquiring Research

It is clear that MiFID II regulations will have global reach. In a recent article entitled MiFID II – CSAs, RPAs and Specialization Tourmaline looked at a move toward the specialization of roles in research and trading. We saw that the industry believes that market forces and the demands of global clients will be enough to increase unbundling in the U.S., even in the absence of regulatory change. Best practice will drive demand for greater transparency and granularity in the pricing and packaging of both investment research and institutional trading. These trends are already leading to an analysis of partners, or experts, in both disciplines as managers evaluate research and execution as stand-alone offerings.

While MiFID II will drive further unbundling, much of the hard work has already been accomplished through the growth and acceptance of Commission Sharing Agreements (CSAs). Independent research was once a newly coined term, used by emerging research companies as a badge to indicate that they were free from investment banking conflicts. Today, it is a given that research comes from virtually everywhere, and the need to use the term ”independent” is no longer necessary. 

Quality research and information will always be welcomed on the buy-side, regardless of where it originates. Good analysts, data sets and investment content come from both large and small brokerage firms as well as independent sources. It is also becoming clear that most investment managers will still use commissions as their currency of exchange to acquire research. The important distinction is that where and how people will trade to pay for research is being determined independently of where the research is created. While already common practice, unbundling will become the rule.

In addition, market forces are driving decisions on where to trade, how to select research content and how to value it. Industry players, mindful that the decade long bull market has to end at some point, share concerns about depressed trading volumes and low volatility. On top of these broader trends, many managers are struggling to raise assets and most are monitoring the growth of passive investing and its potential impact on their business. 

All of these trends affect research budgets. New launches are smaller and, as a rule, most investment managers are reducing their counterparty lists to be more meaningful to a smaller group of sell-side players. A number of investment managers have indicated to Tourmaline that they plan to be “fully unbundled” in the near future. 

Given these trends, it is no surprise that broker-dealers have decided that they can‘t be all things to all people and are structuring their businesses to reflect these changes.

Re-Defining Outsourcing – Tourmaline’s Perspective

As a global institutional trading firm, Tourmaline has a unique window into how investment managers are thinking about trading. We see current regulation and market forces impacting our business in another way.

The genesis of our business was providing outsourced trading to emerging managers – new launches who had no immediate need to hire an in-house trader. Today, the fastest growing part of our business is providing supplemental trading solutions and expertise to established managers of all sizes to complement their own trading teams and in-house expertise. It is becoming clear that providing expert trading solutions can add value to the broader buy-side community.

Tourmaline delivers a buy-side trading experience to investment managers. This offers a flexible solution for firms who need to keep their counterparty list small, but need the reach, expertise and resources that a dedicated trading firm can provide. In doing so, we work closely with the sell-side; leveraging their tools and liquidity on behalf of our clients, while repatriating business back to the street. Our unique approach allows us to go about our business in a way that complements both the buy- and sell-side. 

Our growth shows us that outsourcing even a portion of a buy-side trader’s workflow can deliver value and being able to leverage a team of experienced buy-side traders can be a valuable resource. 

Given this, the term outsourcing is somewhat misleading. We would argue: 

Outsourcing does not mean ‘giving up’ control of a process. It means engaging experts to enhance your own capabilities.

To put this in perspective – investment managers have augmented their in-house research with outside experts for many years; Tourmaline is doing the same by bringing outside expertise to trading.

Unbundling and Its Impact on Trading

We believe there are a number of reasons why our business is evolving and why managers are rethinking how they trade and with whom.  Regulatory change and market forces are certainly major drivers, but the economics of the business play a role, as well. 

Investment managers have always juggled with managing costs while addressing the demands of their trading needs. Before adding an international trader or building out an overseas office, managers will run a cost-benefit analysis. The same can be said for hiring a dedicated options trader. If international trading is only a small part of their assets, or if they rarely hedge a position, these hires make little economic sense for the manager. In these instances, engaging an execution specialist can provide access to the trading expertise they need in a manageable, cost-effective way. 

Engaging outside expertise can help in other ways, as well.  Simply keeping abreast of a constantly changing mix of algorithms, dark pools and desktop technology, as well as monitoring how these tools perform in a given name on a given day, is a full-time job and requires investment in staff and expertise. While large investment managers are more likely to manage this in-house, others are now starting to look to outside expertise and resources.

Changes and advances in how firms measure and manage execution are also a factor. Transaction cost analysis services, long accepted as our industry’s best execution measurement standard, are now starting to include venue and routing analytics.  Some include logic based engines to analyze trading strategies to better manage expenses and deliver alpha. 

Finally, broader market forces are clearly affecting daily trading needs. As managers reduce their counterparty lists, it is common to see liquidity in core holdings trade away. Again, this is an instance where outsourced trading expertise can help.

Tourmaline is designed and positioned to specifically address these issues.  We are covered by over 350 sell-side brokers, so we can access liquidity from the right place at the right time to help our client’s trade when and where best execution dictates. In the U.S., we can also remunerate non-core brokers to not only seek liquidity but to pay for research and/or analyst or management access, sometimes in lieu of using CSAs.  Earmarking or attributing a trade to a specific broker can help keep CSA budgets at desired levels for managers who wrestle with “mix of business” issues.   All of this is managed by a team of over twenty dedicated traders averaging more than fifteen years of buy-side experience.  


Buy-side traders have always known that seeking best execution is a process requiring them to draw on traders and tools from a range of sources to accomplish their goals. Regulation, unbundling and market forces are simply making this fact more transparent.  These trends are driving change that makes drawing on third-party expertise easier and more accepted.  While MiFID II may create a number of headaches in the short term, improved transparency and workflow will ultimately be a benefit to investors.

Someday all trading may be automated. We may even see the day when it is no longer an integral part of the buy-side investment process. Until then, we expect to see a continued move toward engaging experts in a business that continues to become more complicated and measured. Innovative and disruptive business models that add value will always be welcomed by investment managers who seek to outperform—and we see use of third-party expertise as just that. 

To learn more about Tourmaline Partners and our trading capabilities, or to hear our thoughts on how MiFID II will impact the industry, give us a call.