The sell side doesnt quite get it yet.
That is the consensus view among asset managers and
independent analysts nine months before the European Union
rolls out regulations that will rock the securities research
Phase two of Brussels Markets in Financial Instruments
Directive (MiFID) takes effect next January 3. It requires fund
managers to disclose any charges they pass on to investors for
research, or to pay for it themselves. That should force
broker-dealers to explicitly price a dark art whose cost was
previously wrapped into trading commissions (on equity
products) or spreads (on fixed income). And that, in turn,
could put a lot of analysts out of work in Europe, the U.K.
which is charging ahead with MiFID II despite looming
Brexit and, in time, the U.S. and everywhere else.
One study drawing attention, from Hong Kongbased
consulting firm Quinlan & Associates, predicts global
research volumes will plunge 25 to 30 percent by 2020. Russell
Napier, co-founder of the upstart, U.K.-based Electronic
Research Interchange (ERIC), puts that figure at a minimum of
60 percent. Absolutely, everything is going to
change, says Julian Allen-Ellis, who heads the MiFID
steering committee at the London-based Association for
Financial Markets in Europe (AFME), a sell-side lobbying group.
This is truly a shift from an old paradigm to a new
Yet AFMEs members seem to be caught somewhere between
procrastination and denial. A lot of our discussions with
the sell side start with, Heres my cost base and I
need to make a margin over that, says Nick
Anderson, a portfolio manager at Henderson Global Investors,
which controls some £100 billion ($122 billion).
They start from the idea that supply-demand is in
equilibrium, while clearly it isnt.
And thats the second-tier brokers, who are scrambling
to stay in the game post-MiFID II, Anderson says. The giants of
investment banking and brokerage are maintaining oracular
silence on how they intend to charge for research. The
bulge bracket have gone quiet for the moment, he
Not that designing a new paradigm for research pricing is
simple. The ERIC exchange aims to adapt an eBay model, with
users bidding for discrete reports. Personal access to
outstanding analysts in an ongoing sell-side relationship may
be more valuable, Anderson says. The scarce resource is
human interaction, he says. Everyone is trying to
measure that slightly differently.
Another ticklish issue is how to charge for multiple users
across a buy-side client, as one firm may circulate a given bit
of research to two fund managers who pass it on to two dozen
more. Autonomous Research, a boutique London firm specializing
in financial stocks, addresses these issues with a standardized
tier system ranging from light touch, which
excludes analyst face time, to premium. But bigger
broker-dealers are offering a confusing range of less
transparent arrangements with clients, Autonomous CEO Stuart
Graham says. They will try to obscure true price
comparability, he says.
Nor is the letter of the law entirely clear, AFMEs
Allen-Ellis complains. The European Commission handed off its
MiFID II text, which numbers some 15,000 pages, to national
regulators the U.K. and France being the bellwethers
that are drip feeding interpretations in
response to industry queries, he says.
One critical gray area is whether a broker arranging a
meeting with a companys management counts as an
inducement that must be broken out and priced.
Providing access to managements has always been part of
prime brokerage, Allen-Ellis contends. But buy-siders see
this go-between role as outmoded. The sell side has
created a little industry here, Hendersons Anderson
says. Our policy is we wont pay for it.
Some contours of a research sector that needs to earn its
keep seem to be emerging. The days when dozens of analysts
churned out similar earnings notes may well be numbered. But
fund managers will still pay up for in-depth pieces with a
unique perspective, consultant Benjamin Quinlan says.
Most managers are placing a much higher value on thematic
trade ideas, technical/sentiment-based analysis and
bespoke, deep-dive industry reports, he writes.
The buy side will be less likely to enter cover the
waterfront relationships with brokers that include
research on all industries, and will be more inclined to seek
out the top analysts in each field; they may demand some
consolidation. Right now there might be two good people
in each of 30 houses, Anderson says. It would be
better if they were in five or six houses.
Research departments at the big-name investment banks should
survive the coming tumult relatively well, as they can pay for
star analysts and subsidize them out of brokerage revenue if
need be, market players say. And the new environment may open
doors for specialist research-only shops with no ulterior
brokerage motive. Smaller players with universal ambitions may
struggle. Asset managers will use five to ten of the
bulge bracket, then maybe a roster of ten boutiques,
Autonomous CEO Graham predicts. The guys in the middle
who are not very good are going to get squeezed.
As for price, sell-side brokers who pride themselves on
their deal-making skills face a challenging new haggle over the
cost of their own wares. Youll only know
youre at the right price when someone says,
Well turn you off if you pay less, one
European fund manager says. We havent really gotten