In Europe, equity researchers are looking towards the implementation of MiFID II – if and when it ever happens - with a strange combination of dread and hope. On the one hand, the regulation's requirement to 'unbundle' research from fees for other trading services could mean their value is suddenly quantified. On the other, clients might decide they don't want to pay.
Equity researchers are expensive – 52%, or €1.7bn ($1.92bn), of the €3.4bn ($3.85bn) in total commissions on European equity trades that institutional investors paid to broker-dealers during the year leading up to March 31 of last year went toward compensation for research, according to Greenwich Associates. In Europe, it's been something of a bloodbath for equity research. What's the situation across the pond?
Sell-side research is generally bleeding people, and revenues are lower across the board, says Leigh Drogen, the founder and CEO of Estimize, which offers crowd-sourced equity research, and Forcerank.
“It's not a secret that the buy-side doesn't care at all about the actual written research from the sell side – they never have,” Drogen said. “They care about corporate access, special insights and models. Sell-side analysts are basically free-ish expert networks for the buy-side."
This is a familiar argument. Equity researchers on the sell-side have long sought sanctuary on the buy-side. Those with more gumption have tried to make independent research shops work under the belief that clients will pay for meaty documents that offer a genuine competitive advantage. This hasn't always worked out – Andy Howard, the former head of Goldman Sachs' GS Sustain research product, left in 2013 to found his own research firm, Didas Research. Last month, he joined asset manager Schroders.
“The buy-side is doing their own work, and if your independent research shop really is putting out excellent alpha-generating stuff, the buy-side won't pay a lot of money for it unless you only sell it to a few of them," says Drogen.
Those offering independent research, rather obviously, disagree with this notion. Third Bridge creates research for private equity firms and hedge funds, and managing director Joshua Maxey believes that greater scrutiny of research will benefit those offering independent services. But if the U.S. does follow Europe's lead, there could be further restructuring.
“We have not seen the U.S. market follow a similar trend, and there is still the view that the sell-side is unlikely to come under as much scrutiny as in Europe,” Maxey said. “The U.S. is very much watching what is going to unravel in Europe before seriously looking at the unbundling of commissions.”
“In the U.S., the regulators have no teeth whatsoever,” says Drogen said. “It's no secret that there is no Chinese wall between sales/trading and investment banking, and that revenue is generated via corporate access. It's the worst kept secret in the industry. And the regulators in the U.S. can’t change that because the banks won't let them.”
Some, including Drogen, love seeing this system torn down in the E.U. The position of this camp is, “If a fund wants to pay for corporate access, let them pay with hard dollars.” Theoretically you should get more independent and accurate research out of the sell side, if there are any sell-side analysts actually left doing research and not just shepherding funds to talk with companies.
Some large banks are trying to grab their research back from the big aggregators, such as Bloomberg, Thomson Reuters, Capital IQ and FactSet, and make investors log on to their internal research portals to get it.
“I think this is a terrible idea,” Drogen said. “The last thing you want to do as a bank right now is provide a much worse service to your clients making them hunt down your specific research note – terrible idea. No one cares about your specific research note.”
This whole industry goes in cycles, and this has been tried in the past – the sell side attempting to get the buy side to pay for something they never wanted in the first place, he said.
“The banks try it, they fail, and they capitulate again to soft-dollar research,” Drogen said.
Competition from crowdsourced platforms has accelerated the disintermediation of "research" as a business, according to Drogen. Buy-side firms have more options these days regarding where they get the research and data they want.
“Only a few years ago, some people would have laughed at reading a research note on SeekingAlpha or SumZero, or getting their primary research on Slingshot Insights – or checking StockTwits to see what the chatter around a name is,” Drogen said. “Not anymore.”
“These are big institutional platforms that have proven their worth,” he said.
And instead of the buy-side going to the banks for insight around all the data that feeds into their models, asset management firms are going straight to the source now, purchasing satellite data, email data and credit card data.
“They are doing their own work instead of relying on what they know are biased sell side analysts who just want to support corporate access,” Drogen said.