A cut in spending on investment research, caused by Mifid II rules, could save UK fund managers nearly £1 bn ($1.3 bn) over the next five years, according to regulator the Financial Conduct Authority (FCA).
The EU rules, which came into effect almost 14 months ago, are having a ‘positive impact’ on the accountability and discipline of the buy side when getting research, according to FCA CEO Andrew Bailey.
Speaking at an event hosted by the European Association of Independent Research Providers (Euro IRP) on Monday, Bailey said commissions had fallen not only because of the unbundling of research costs but also because managers are increasingly using more electric, ‘low touch’ channels.
He also observed that technology is changing the nature of research and how it is supplied, monitored and valued by the buy side.
The FCA’s findings suggest research budgets have dropped by around 20 percent to 30 percent since the introduction of Mifid II. The regulator estimates that the reduction incurred in equity portfolios managed in the UK was in the region of £180 mn in 2018.
‘Assuming similar savings going forward, this equates to nearly £1 bn over the next five years,’ Bailey told delegates. ‘Importantly, buy-side firms have indicated they can still access the research they need. This may reflect the low ‘entry level’ prices for written research, alongside more thoughtful consumption across the board.’
Price discovery
Bailey added that while the market was going through a period of ‘price discovery’, the price of written research is much lower than initial forecasts ahead of Mifid II. But he emphasized that these changes to research will ultimately lead to an appreciation and elevation of high-quality research.
‘Turning to the sell side, the emergence of pricing and a recognition that research is a service in its own right and should be paid for has taken hold, although we recognize that price discovery is continuing to evolve.’
Bailey said the FCA was focused on ensuring fair competition in the investment research marketplace, and asset managers must consider whether accepting certain pricing levels from investment banks or other research providers could still give rise to a conflict of interest. ‘In other words, [they should look at whether] what they receive is so cheap as to call into question whether it is genuinely divorced from trading or wider relationships with a broker,’ he said.
Very low pricing also raises competition questions about the future of a sustainable and diverse research market in the interest of consumers, Bailey added, noting that this is something the FCA is ‘keen to scrutinize and test’, especially low-cost ‘all you can eat’ packages or one-off events such as conferences priced substantially below cost.
‘Overall competition on quality and price is good for the buy side and the consumers it serves,’ he said.
Small-cap coverage
Bailey dismissed claims that Mifid II was having a negative impact on the research coverage of smaller companies and the liquidity of their shares on secondary markets.
He said, so far, evidence has been ‘inconclusive’ and did not suggest the ‘dramatically negative impact that some predicted.’
Data for the 2015-2018 period shows that analyst coverage levels on the London Stock Exchange’s Main Market and the Alternative Investment Market have ‘remained broadly consistent,’ Bailey concluded.
Sperate research by Hardman & Co, published this week, suggest that analyst coverage of UK small caps and companies listed on London’s Alternative Investment Market actually increased over the 12 months following the implementation of Mifid II.
