Sell-side research budgets are looking increasingly vulnerable as Asian asset managers examine how to deal with the potential impact of Europe’s Markets in Financial Instruments Directive II (Mifid II), which comes into effect next January.
Estimates for how much an active manager pays for research vary from 25% to 60% of overall dealing costs, and many believe its quantification will lead to sizeable job losses from banks’ research departments.
Under Mifid II, funds will be forced to either provide their clients with itemised bills, splitting research apart from dealing costs, or pay for research separately themselves.
It is forcing the industry to examine its research funding model and many have come to the conclusion that the sums do not add up.
Growing budget pressure
“Research budgets have been under pressure for a long time,” said Rupert Mitchell, chief executive of View from the Peak (VFTP), an independent research provider. “First there was the ruling that banks couldn’t use research to win investment banking mandates, and now they have the repercussions of Mifid II to cope with.”
Many fund managers have also been expanding their in-house research teams and are, therefore, less reliant on broking research than they once were. They are also understandably hoping this trend will give them a stronger bargaining hand as brokers assess how much to charge them for research.
Market participants agree that it’s a difficult knot to untangle.
“It’s noticeable that brokers are all at very different points along the road in terms of their thinking. It’s not easy, as there aren’t existing industry benchmarks to cost against, and requirements will vary from fund to fund,” said Michael Stapleton, managing partner at First State Stewart Asia (FSSA), an independent investment team within First State Investments.
For example, he noted that a UK-focused portfolio manager has a far narrower research requirement than a pan-emerging-market specialist covering multiple countries and thousands of companies.
Stapleton said his team values being able to attend conferences. “We also find it helpful having access to high-quality specialist analysts, although we do the majority of our research in-house,” he added.
FSSA this month became the first Asian investment team to announce that it will stop paying for brokers’ research and advisory services out of client dealing commissions.
Stapleton, who runs the Asia and Greater China equities investment group, said most of its research is already conducted in-house.
Independents to the fore?
But where does that leave written research? Will some brokers pull out of research altogether, or become far more specialised?
Some fund managers argue that cost-cutting measures since the 2008 global financial crisis have already created a situation where too many reports are churned out by ever-younger analysts who have not seen enough industry cycles to provide value-add.
This is where companies like VFTP believe they come in. The Hong Kong-based outfit was set up in 2011 by ex-hedge fund manager, Paul Krake and provides independent macro thematic research based on three model portfolios. It operates off IND-X Advisors’ independent research platform, which provides all its back-office and regulatory services.
VFTP’s Mitchell told AsianInvestor that star analysts may well decide to set up on their own in a world where fund managers become a lot pickier about whose research they will pay for. He himself formerly worked in equity capital markets at Goldman Sachs.
“Over the short-term, Mifid is a big headwind,” Mitchell said. “Fund managers are currently looking to cut suppliers given the budget constraints they’re dealing with when it comes to buying research.”
Stapleton, however, does not think FSSA will necessarily need to cut down its supplier list.
“We’re all still at the price discovery stage,” he concluded. “So it’s not clear what kind of pricing menu brokers will come up with. Clearly the industry model is going to change, but it’s very difficult to predict what the future will look like right now.”