August 2017: Another Example of Our Industry Growing Up

The countdown to January 3 next year—the day the revised Markets in Financial Instruments Directive (Mifid II) hits the European statute books—is now well and truly under way. As this magazine has reported over the past number of years, the implications for all capital markets firms with respect to complying with the Directive are far-reaching. One of the most significant changes under Mifid II pertains to the relationship between buy-side firms and their research providers. Come the first working day of next year, buy-side firms will for the first time be required by law to purchase all their research and separate their research and execution functions, which have in most cases been provided by the same entities. What this means in practice is that where buy-side firms had been inundated by free research from specialist providers, research aggregators and sell-side firms, they now need to select and pay for the research they choose to receive, and they need to disclose what they are paying for, why they are paying for it, how much they are paying for it, and where the payment is coming from. 

Currently, buy-side firms are in the somewhat luxurious position of not having to pay for any research. It’s akin to walking up and down the aisles of a superstore and helping yourself to anything and everything that catches your eye, although in this scenario, nothing is priced. Who said there is no such thing as a free lunch?  

So, not only is the research free-for-all coming to an abrupt end, but research providers are going to have to start working out how exactly they are going to price their research. 

What’s clear is that the market is set for massive upheaval. It’s impossible to get an accurate figure on the number of research providers serving the European capital markets—I’ve heard estimates ranging from approximately 1,000 to over 4,000—but what I am sure about is that come the end of next year, that number will be significantly smaller. In fact, one buy-side CIO I spoke to recently believes that his organization might whittle its research providers down from “hundreds” to a core of only five. Yes, things are about to get hairy in research land.   

Is the unbundling of research and brokerage commissions a good thing? On balance, I think it probably is. After all, providing end-investors with greater transparency into what they are paying for in terms of asset management fees is long overdue. That is one of Mifid II’s central tenets. But I can’t imagine that the sell side and specialist producers are looking forward to the new dispensation with excitement. And how they are going to fairly price a commodity that they’ve been throwing at the buy side for years is anyone’s guess. That’s a circle they will all struggle to square.