MiFID II: realising the value of investment research
The world of investment research is set to change dramatically once MiFID II comes into force. David Landi, Global Head of Financial Services at The Smart Cube, explains the both the potential complexities and promise facing asset managers as they seek to prepare themselves for what lies ahead…
The Financial Conduct Authority has recently criticised asset managers over their research and trading charges, saying the majority are “falling short” of providing value for money for clients.
This will soon be addressed, given the proposed changes under MiFID II. This initiative is specifically designed to increase transparency, while tackling the thorny issue of inducement. Corporate access is a clear breach of the rules, with the regulator promising sanctions for any such violation.
Most asset managers are working under the existing regime, while trying to work out how to best structure and plan for the new realities of MiFID II. Asset managers will need to set aside a budget for research, which must be first, substantive, and second, seen to help with investment decisions. It follows that for compliance reasons, an audit trail for third-party research consumed by the buy-side will be required.
Research will become a buyer’s market…
The other issues are more complex, as research will become a buyer’s market, with strong competition expected. In a competitive world, this should be the catalyst that levels the playing field for independent research providers; a recent Celent report on this topic notes, “It is the insight rather than the power of the voice which should determine the value in the marketplace”. Questions remain, however, about how to best value research in the first place, coupled with the need to put an intrinsic value on third-party content that is used in forming an investment decision.
Add to this complexity the replication of investment research, with many asset managers currently receiving similar reports on companies from multiple providers – many of which may not even be consumed. As research has been bundled in with the cost of transactions thus far, the costs have been invisible to the portfolio manager, but now this must also be understood.
Various changes are mooted, such as rationalisation among sell-side providers, or a flight to quality, where it will pay to be a top-rated analyst or sector specialist. Some large asset management firms have already acted by unbundling research in advance of MiFID II, though funds still need to be ring-fenced for external third-party research. This raises concerns for smaller boutique asset managers, as they may have to pass on these additional charges, driving up client costs.
The beauty of digital solutions is they create an audit trail for purchased research, and monitoring for compliance purposes
The fintech revolution can certainly address some of the fundamental issues around value and compliance. Several research aggregating platforms are now available and provide a viable solution by either pricing insight as a product, to buy on a per-report basis, or using an as-a-service model, with a single subscription enabling access to all insights on the platform. Research from sell-side and independent providers can sit side-by-side on any such platform. The beauty of digital solutions is they create an audit trail for purchased research, and monitoring for compliance purposes. Some providers can even add enhanced analytics capabilities to determine consistency and quality over time.
Another solution for asset managers will be to expand internal research capabilities. In practice, this is likely to be expensive, given the skilled resources, infrastructure and data requirements needed to deliver the research.
A third possibility is to control costs by engaging with an offshore provider, whose production rates can be considerably lower. As competition throughout the industry increases, it will vital to consider the cost of research production and provide quality content at a competitive rate.
Mix it up to meet MiFID II requirements
For many asset managers, the answer lies in a combination of all three approaches, to ensure they benefit from an end-to-end portal that fits their investment strategy needs. Investors can use third-party providers to deliver, aggregate and summarise required research, all of which can be accessible via an online platform. Such a solution addresses the information-overload issues faced by many investors and will also ensure they have easy access to the appropriate intelligence, when they need it, with in-built search functionality.
From a compliance perspective, the asset manager sources and pays for the research from a varied source of third-party providers. The manager will have visibility of the prima facia costs, which can be integrated into a management overview, complete with a comprehensive audit trail, such as when the research was read and by whom. All platform data can also be put into structured formats so analytic capabilities can be overlaid to provide deeper insight and track performance.
The FCA has signalled that it is looking at the structure of the investment research market, and fundamental change is a certainty. Asset managers should be taking advantage of the time they have this year to plan how they will act and use investment research in a post-MiFID II world – not only to ensure compliance, but to add value to their processes and their clients.