US asset managers are planning to extend new European rules on bundled research to their North American operations as part of a new global best practice, according to a report on transaction cost transparency.
But the report, from Greenwich Associates, also warns that new rules now under discussion in Europe governing asset managers’ use of trade commissions to pay for research could cause investors to cut ties with some brokers, decrease the availability of sell-side research in certain areas, and place small asset management companies at a competitive disadvantage.
The EU regulator and the FCA are concerned that bundled research commission arrangements, known as soft dollar commissions, see fund manager research paid for out of investors’ money in a way that is not quantified. Fund managers are able to transact on either an execution-only basis, or with ‘research bundled in’, at typically twice the cost. This extra cost is then held by the broker and used to pay research costs specified by the fund manager, a cost which some stakeholders should appear on the fund manager’s profit and loss account. The cost is not always explicitly broken down through AMC, TER or ongoing charges figures. Frost Consulting estimated that around $22bn was paid to fund managers through soft dollar arrangements in 2011.
Participants in roundtable discussions hosted by Greenwich Associates in New York and Boston in June predicted difficulty in assigning a set value to specific research products and services. Delegates argued the same piece of research or meeting will have different values for different investment strategies, portfolio compositions, and even for the same people and functions at different times in the investment cycle.
Greenwich Associates says not only will asset managers have to invest in the IT and personnel required to administer the increasingly complicated procedures needed to assign specific value to research products, firms will also have to demand more detailed feedback from portfolio managers and analysts who will be forced to divert time from their portfolios.
The report found 37 per cent of investors polled say they expect the actions of European regulators to cause them to reduce the total number of brokers they use for research and advisory services within the next year, and 36 per cent expect rule changes to prompt cuts to the number of brokers they use for trading. A quarter of the study participants think the availability of small-cap equity research will decline in the next 12 months as a result of the regulatory changes.
Several research participants said a move to unbundling or a shift to hard-dollar payments would place smaller buy-side firms at a disadvantage. “The potential influence on access to critical research services and products for smaller firms, and the disparity it would create within the industry, would be extraordinary,” said a representative of a small US asset manager.
Greenwich Associates consultant John Colon says: “Even if you set a standard price on a type of research, that price probably does not reflect the actual value.
“Some pieces of research might be discarded as irrelevant, even as others trigger important decisions to trade or not to trade.”