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Oct 25, 2016

The impact of Mifid II: Part I

In the first of a two-part analysis, Andrew Holt explores some of the issues examined in a report on the IR implications of Mifid II 

The impact of Mifid II on IR professionals is a much-mooted issue. A new paper states that regulatory change has had a significant impact on the shaping of the equity research system and predicts a contraction in sell-side coverage and support, as well as a more concentrated buy side.

The paper by Edison, the equity research and investor relations firm, in conjunction with Bloomberg Intelligence and Frost Consulting, updates a January 2014 white paper, The Future of Equity Research,andfollows the publication of the Mifid II Delegated Acts and other regulatory and equity research industry developments over the past two years.

The report notes that asset managers have already started to fund external research from their own P&L or through research payment accounts with clear audit trails. Under the new regime, this will continue, as it is mandated by Mifid II.

The report also observes that managers will be required to establish the monetary value of a research product or service where previously payments would have been made through the buy-side broker voting system. If payments for investment research are more distanced from dealing commissions, competition for research may increase as asset managers look beyond traditional sources, which may trigger market fragmentation. There is also the possibility asset managers could move research in-house or increase the size of their internal research groups.

Commenting on this, Will Goodhart, CEO of CFA Society of the UK, says: ‘Clearer identification of the value of research and improved disclosure about the cost of research to clients are attractive outcomes, but we also need to take care to identify all the impacts of any change.’ 

With the same number of companies vying for a smaller buy side with less sell-side support, IROs and corporate management teams may wish to consider the following points raised in the report:

– IROs should allocate more of their time to the strategic targeting of investors as a concentrated buy side presents a greater challenge in developing a diversified shareholder register 

– Review budgets allocated to investment research activities 

– Make it easier for both the sell side and the buy side to follow a company, which includes a review of websites, presentation materials and producing regular KPIs.

Plans to separate research from execution spending could also cause banks to streamline their research offerings, notes the report; it’s a point that has been much discussed within the IR world. Larger banks, which can cross-subsidize research and offer a wider range of ancillary services, may thrive in a more competitive market, along with established smaller providers. But while those in the middle may be more at risk, they may see an opportunity in providing research on small or mid-sized companies that may receive less attention from larger research providers.

As a result, the report observes, the price and underlying value of investment research will be subject to closer scrutiny and asset managers may become more selective about what they buy, choosing tailored coverage instead of paying a lump sum for a wider bundle of research.

Competition in the investment research market should increase as a result, suggests the report. Portfolio managers would likely be more selective about the research they pay for and would shop around at multiple providers while they gain a greater understanding of the implicit cost of investment banking research on a per product/service basis.

If so, independent research providers would more easily be able to compete and gain access to the multi-billion-pound equity research market, which until now has been the near-exclusive domain of investment banks and brokers, comments the report.

With the asset management industry continuing to consolidate and operate on a global basis where the top 120 asset managers now look after 53 percent of global assets under management, Edison expects these changes to resonate globally, because asset managers are likely to adopt common systems to reduce complexity for their businesses.