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"From the perspective of independent and boutique research providers, the fact that their commission intake did not grow over the past 12 months during buoyant markets raises some troubling questions"
Jay Bennett, Greenwich Associates |
Like Hollywood celebrities, US fund managers are used to getting lots of things for free, such as equity research. Although they are now expected to justify their conspicuous consumption, it seems that the sense of entitlement is hard to shake. Fund management firms are ramping up their use of independent research but, according to a new study from Greenwich Associates, these institutions are not increasing the amount of commission dollars they pay to independent research providers.
"When looked at in light of the increasing usage reported by buy-side analysts, we have to wonder if some non-broker/dealer independent research providers are having trouble getting paid for their products," says Greenwich Associates consultant Jay Bennett.
Less commission
Forty percent of the more than 1,000 buy-side equity analysts interviewed by Greenwich Associates, as part of its 2007 US Equity Analysts Research Study, say they expect to increase their use of products and services from independent or boutique research providers in the next 12 months. However, commission payments to independent research providers do not appear to be increasing in absolute dollar terms. In fact, in 2006 fund managers actually reduced the amount of commission dollars they paid to independent providers to $750 million from $775 million.
The expected pick-up in the use of independent research by analysts is consistent across the different types of institutions that make up the US equity buy side. Mutual funds are predicting the biggest move into independent research, with 56% of mutual fund analysts reporting that they expect to increase their use of research from non-investment banks. Nearly a third of analysts employed by long-only investment managers say they expect to increase their use of independent/boutique research, and another 6% predict a "significant" increase.
At the same time, almost 20% of the analysts interviewed say they expect their institutions to "reduce" or "significantly reduce" their use of investment bank research in the coming year, while only 9% expect it to increase. Hedge funds are expected to cut their use of investment bank research the most. Nearly 30% of the hedge fund analysts interviewed say their funds will cut back on the amount of investment bank research they use in the next 12 months.
Settlement
The equity research industry has been in a state of near constant change since at least 2003, when 10 of the largest US investment banks agreed to the $1.4 billion Wall Street research settlement with the SEC. With research isolated from investment banking, large securities firms have been forced to assess the value of their research franchises on a stand-alone basis as drivers of equity trading revenues. For the most part, the economics have not been favourable. Commission rates on US equity trades have been falling consistently and a growing share of institutional equity trading volume is being executed through low-cost electronic systems.
"It is certainly fair to say that the bulge bracket banks have ‘re-sized’ or ‘right-sized’ the costs of their research departments in line with these new realities," says Bennett. "It was expected that many of these shifts would favour independent research providers, and to some extent they have. But the restructuring of the bulge-bracket research franchises is now largely complete, and the major broker-dealers remain firmly committed to the equity research business as it now stands. From the perspective of independent and boutique research providers, the fact that their commission intake did not grow over the past 12 months during buoyant markets raises some troubling questions."