SEC Strikes Again With New SAC Insider Trading Charge

March 17th, 2014

Last week the Securities and Exchange Commission filed civil charges against yet another former SAC Capital analyst for insider trading, suggesting that the government is not done with its investigation of Steven Cohen’s hedge fund.

Background of the Case

In its recent complaint, the SEC alleged that Ronald N. Dennis, a former analyst at SAC affiliate CR Intrinsic Investors, traded on material nonpublic information he received from two other hedge fund analysts in the shares of Dell (DELL) and Foundry Networks (BRCD) during 2008 and 2009.

Dennis purportedly received illegal inside information about Dell’s financial performance from former Diamondback Capital analyst Jesse Tortora.  Separately, Dennis received an illegal tip about the impending acquisition of Foundry Networks by Brocade Communication Systems from Matthew Teeple, an analyst at a San Francisco-based hedge fund.  Both Tortora and Teeple have been previously charged by the SEC for insider trading.

The SEC also alleged that Dennis traded in Dell before earnings announcements in 2008 and 2009, enabling CR Intrinsic and SAC Capital to either generate profits or avoid losses of $3.2 million on its positions in Dell stock.

In addition, the SEC alleged that Dennis received information from Teeple about Brocade’s upcoming acquisition of Foundry Networks in July 2008, prompting him to purchase Foundry stock for CR Intrinsic before the news of the acquisition was made public.  This trade enabled CR Intrinsic to generate approximately $550,000 in profits.

Steve Cohen Identified

In the SEC’s complaint, a number of SAC employees were mentioned who Dennis reportedly shared the inside information he had received.  This includes “Portfolio Manager A” who the SEC alleges, purchased 120,000 shares of Foundry stock for CR Intrinsic after Dennis gave him the tip; “Portfolio Manager B,” who the SEC alleges traded Dell shares based on inside information Dennis provided; and “Portfolio Manager C,” who the SEC alleges, bought 500,000 shares of Dell in August, 2009 after speaking with Portfolio Manager B, who had received inside information from Dennis.

While the SEC complaint did not identify the three SAC employees Dennis allegedly shared his illegal tips with, people familiar with the matter say that Portfolio Manager A is likely to be Alec Shutze, Dennis’s former boss at CR Intrinsic; Portfolio Manager B is Eric Gerster, who became Dennis’s boss after Shutze left the firm; and Portfolio Manager C is SAC founder Steven Cohen.

Settlement Agreed

In response to the SEC’s allegations, Dennis agreed, without admitting or denying the charges, to pay $95,351 in disgorgement of profits, $12,632.34 in prejudgment interest, and a $95,351 penalty.  Dennis also agreed to be permanently barred from working in the securities industry.  The settlement is subject to court approval.

Sanjay Wadhwa, senior associate director of the SEC’s New York Regional Office explained this settlement, “Like several others before him at S.A.C. Capital and its affiliates, Dennis violated the insider trading laws when he exploited confidential information about public companies, in this case Dell and Foundry, to unjustly benefit the firms and enrich himself.  His actions have cost him the privilege of working in the hedge fund industry ever again.”

The case is SEC v. Dennis, U.S. District Court, Southern District of New York, No. 14-01746.


Almost exactly one year after the SEC announced a record $600 million insider trading settlement with SAC Capital affiliate, CR Intrinsic Investors, the SEC brought yet another civil case against a former CR Intrinsic analyst for insider trading.  While the settlement of this case was not surprising, what the case clearly proves is the SEC is far from done with its insider trading investigation of the firm, or the hedge fund community in general.

As we have mentioned numerous times in the past, the federal criminal and civil authorities collected hundreds of hours of wiretaps, have thousands of e-mail communications, and have dozens of cooperating witnesses on hand as part of its “Perfect Hedge” investigation.  Most experts we have spoken with believe this alone is sufficient evidence for the DOJ and SEC to continue bringing insider trading cases for the next few years.

In our minds, this should be sufficient legal pressure for the asset management industry to continue to clean up its act.  It probably also means that hedge funds will continue to hire legal and compliance professionals to help protect the firms from bad actors and potential insider trading risk.


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Financial Sector Job Cuts Surge Last Month

March 12th, 2014

Despite the modest improvement in the jobs outlook seen across much the economy recently, Wall Street continued to slash jobs last month as weakness in mortgage applications, weakness in trading, and general rightsizing was seen at many of the nation’s largest banks.

Challenger, Gray & Christmas February Report

According to Challenger, Gray & Christmas’ monthly Job Cuts Report released last week, the financial services industry announced the most planned layoffs of any industry in the US economy during February with plans to cut 9,791 jobs in the coming months.  This is almost double the 4,817 planned job cuts announced in January, and is the largest number of monthly layoffs announced since the 21,724 total seen in February 2013.

Over the first two months of 2014, Wall Street firms have announced 14,608 planned layoffs.  While this is significantly higher than the total seen in recent months, it still represents a 52% drop from the 30,302 planned job cuts announced in the first two months of 2013.

John Challenger, CEO of Challenger, Gray & Christmas explained this weakness, “While some of the cuts in the financial sector were related to cutbacks in mortgage lending operations, a large portion of the banking workforce reductions in February were due to the ongoing shift away from branch banking toward increased mobile banking.  This is a trend that is gaining momentum and undoubtedly will have a profound impact on banking employment levels in the coming years. The number of bank tellers and traditional banks will continue to shrink as more people manage their bank accounts over their phones, on their laptops, and at ATMs and kiosks.”

Planned hiring at financial services firms did rise slightly in February to 400 jobs from a meager 129 new jobs seen in January, however this is considerably weaker than the 1,130 new jobs announced in February 2013.

JP Morgan Cutting ???? Jobs

One of the Wall Street firms that announced the biggest spate of layoffs in February was JP Morgan Chase & Co which reported 3,500 expected job cuts.  In recent months, JP Morgan has announced it will slash over 10,000 jobs in its business globally, primarily because its mortgage business (like so many other banks) has slowed to a trickle.

Interestingly, the Financial Times has written that it expects that JP Morgan may reduce headcount by as many as 15,000 jobs, and the number of layoffs could reach close to 20,000 if the firm’s mortgage business continues to worsen.

Mortgages Not Only Reasons For Layoffs

However, weakness in the mortgage business is not the only factor prompting higher job cuts at JP Morgan and other Wall Street banks.   Clearly weak trading revenues in the first quarter continue to prompt layoffs at many banks.  For example, JP Morgan Chief Executive Officer Jamie Dimon recently said that revenue from the firm’s equities and fixed income businesses was down about 15%, consistent with the decline expected from Citigroup’s finance chief.  This could presage the fourth straight drop in trading revenue during the 1st quarter.

Additionally, the increased adoption of technology and changing customer behavior is also having a substantial impact on most banks’ employment plans – particularly in the bank branch network.

Speaking about JP Morgan’s layoff plans, Challenger said, “According to reports, most of these will come from its branch network. However, these are not cuts from a weakening economy or a struggling bank. These are proactive moves by CEO Jamie Dimon in recognition of the coming sea change in the way people bank. The bank has shifted from a ‘branch-building strategy to an optimization strategy.’ In other words, Chase will have more places to bank, but technology will replace tellers for day-to-day banking. Meanwhile, the bank promises to provide more personalized asset-management services for those seeking more financial planning guidance.”

Other large banks, including Wells Fargo and Bank of America already responded to the declining relevance of the bank branch, as they have both been closing branches for the past few years.

Relevance for Research Industry

While most of these trends won’t have a direct impact on the research business, the continued weakness in equity and fixed income trading won’t help business prospects or hiring.  Clearly, sell-side and independent research firm revenue will be impacted by weak commission flows.  In addition, many large banks with both struggling mortgage units and over-sized bank branch networks may try to keep a lid on hiring across their firms – including in their investment research businesses.


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CFA UK Opposes Proposed Regulations

March 10th, 2014

The CFA Society of the UK (CFA UK) registered opposition to new guidelines for research commissions proposed by UK regulators.  In its 32-page comment letter, which included a white paper on the research market, the CFA UK criticized the Financial Conduct Authority’s (FCA’s) content-based approach to regulating what research is eligible to be paid with client commissions, arguing for a use-based approach permitting anything that contributes to investment decision-making.  However, it agreed with the proposed ban on commission payments for corporate access with the proviso that the volume of corporate access should not be diminished by the new regulations.  The CFA UK recommended against a total ban on the use of client commissions for research.

Eligible Research

The CFA UK, whose membership comprises approximately 10,000 investment professionals from both the sell-side and buy-side, took issue with the FCA’s definition of research eligible to be paid with client commissions.  The FCA and its predecessors have maintained a tighter research definition than U.S. regulators, requiring that research contain ‘original thought’.  In its new proposed regulation articulated in Consultation Paper 13/17, the FCA underscores its definition by characterizing it as requiring ‘substantive research’.

The CFA UK attacks the FCA’s content-based approach to eligible research:  “…we do not support a content-based approach to the definition of research. We favour a use-based definition requiring investment managers to make reasonable, evidence-based assessments of the extent to which different research products and services have contributed to investment decision-making across specific investment vehicles.”

The awkward fact, however, is that the UK definition of research has been content-based for the last 8 years.  As we have noted previously, the specific research definitions in CP 13/17 are no different from the previous definitions.  Rather, what CP 13/17 is doing is clarifying what the FCA believes meets its previous standards.  CP13/17 reflects the FCA’s umbrage that asset managers have been largely ignoring the existing standards, most blatantly with corporate access but also through payments for expert networks and other forms of primary research.

The CFA UK argues that the FCA’s definition is too restrictive:  “By focusing only on the content of the material, the proposed definition may inappropriately narrow the scope of services available to be obtained by commissions to only research reports and conclusions in their final form. This approach ignores the use of commissions to obtain building blocks of information or raw data that can be used by investment managers to form their own independent strategies or analysis.”

Corporate Access

Although corporate access is an important building block to investment decision-making, the CFA UK wavers in its support for corporate access.  Tucked away in an appendix is the CFA UK’s admission that it agrees that paying for corporate access from dealing commission should be disallowed.  The CFA UK’s tepid support is preceded by an extensive ode to the virtues of corporate access and caveated with the proviso that the FCA’s payment ban should not diminish the volume of corporate access.

It is unlikely that the volume of corporate access in the UK will diminish because, as the CFA UK points out in its paper, the investment banks will be quick to game the new regulation.  The CFA UK (many of whose members work in investment banks) expects that banks will continue to arrange meetings with company management as a ‘free’ service for their largest clients.  “Corporate access will persist in all but name, but will be managed as a ‘free’ service’”.

We suspect that the banks’ response will be more subtle, incorporating analyst input into the corporate access process and leveraging the eligibility of conferences in order to ensure that corporate access services are ‘substantive’.

As we have noted, there are also new startups offering innovative responses to the proposed regulation.  One example is Ingage, a brand new cloud-hosted platform designed to intermediate corporate investor relations with institutional investors.  While the CFA UK supports new initiatives like Ingage, it cautions that asset managers will be loath to pay for corporate access from their own wallets:  “However, it is worth noting that the general anxiety about being seen to pay for any form of corporate access – even where payment is made exclusively from an investment firm’s own resources – means that investment firms are cautious about subscribing for such services.”


The CFA UK also cautions the FCA against a total ban on research commissions, arguing that it would be disruptive to markets, uncompetitive for the UK asset management industry relative to other domiciles, and disadvantage smaller asset managers and independent research providers.  While it acknowledges that smaller asset managers and research providers might recover, it raises the risk of permanent damage to competition within the asset management industry and the research market.

The submission also includes a review of academic literature on the value of research and the results of the survey on research the CFA UK conducted last fall.  The survey provided strong support for improved disclosure of research costs and more explicit pricing of service levels by research providers (something over which the FCA has little control).  Interestingly, the survey was most negative about two of centerpiece recommendations made by the CFA UK: better benchmarking of external research costs and research budgeting.


The CFA UK’s submission is substantive and, given the organization’s stature, will be given close scrutiny by the FCA.  Its arguments against a content-based research definition are forceful and well-reasoned.  Nevertheless, it is unlikely the FCA will move to a use-based definition as the CFA UK proposes.

First, there is the matter of regulatory inertia.  The current content-based research definition has been in place since 2006.  Further, the FCA is incensed that asset managers have effectively ignored the rules with regard to corporate access.

Second, a use-based research definition opens the gates widely to a variety of services that the regulators do not consider research, most notably market data.  Market data vendors can rightly argue that their services are valuable inputs to investment decisions and therefore should be eligible to be paid through commissions.  However, the FCA explicitly cited examples where asset managers were paying in full for market data services with client commissions as abuses of the current regime.  The CFA UK wisely glossed over this issue in its submission.

Corporate access is also problematic for the CFA UK’s position.  The submission states that there is common agreement that corporate access is valuable.  If so, why not support it under a use-based definition?  The reasons given (lack of transparency, difficulty in determining value) are no different than for any other bundled research product.

Which leads to a further question: if the CFA UK supports a ban on commission payments for bundled corporate access, why not support a ban on commission payments for all bundled research?  The CFA UK’s answer is that a total ban would be too disruptive.  However, if the proposed ban on commissions for corporate access goes smoothly, perhaps the FCA will be emboldened to move to a broader injunction.  In other words, CP 13/17 is a test case for a broader ban.  To be continued.

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Corporate Access Startups Hoping to Profit from FCA Ban

March 5th, 2014

The proposed ban on payment for corporate access with client commissions by the UK’s Financial Conduct Authority (FCA) promises to be a boon to firms hoping to benefit from the regulatory change.  Ingage is a brand new platform to facilitate non-deal roadshows.  At the same time, video conferencing platform OpenExchange has partnered with Ipreo to offer virtual roadshows and conferences to Ipreo’s customer base.


Ingage is a cloud-hosted platform designed to intermediate corporate investor relations with institutional investors.  The system allows investors to view the company roadshows and one-on-one meetings available while companies can select the investors they most want to meet.  Companies can host webcasts directly on the platform to reach a wider audience.

Ingage was founded in January 2014 by Michael Hufton, a former Cazenove partner and fund manager at Polar Capital.  The firm says its platform is in trial with key players including Fidelity International, Nestlé, Tullow Oil, and National Grid, the operator of the UK’s electricity system.

The business model is a user-based subscription model charged to participants, whether they be publicly traded companies or investors.  Companies will pay £6,000 (US$10,000) a year, discounted to £3,000 at first. Companies will also be asked to cover the cost of hiring rooms and providing refreshments. Asset managers will pay between £6,000 and £120,000 (US$200,000) a year, depending on their size.

As we have noted in the past, the fees for corporate access have tended to average between US$7,500 to US$10,000 for each non-deal roadshow, and can range as high as US$20,000 per access for particularly hard-to-get corporate officers, as mooted by the Financial Times.

By these standards, Ingage’s fees are reasonable, but the reality is that investors have been paying corporate access fees with client commissions, not money out of their own wallets.  Their appetite for paying for what was previously free to them remains to be seen.


Particularly since investment banks, for whom corporate access is currently a major source of commissions, will not be standing still.  Banks are adept at finessing regulation, and we think the FCA’s ban will be no exception.  Although facilitating vanilla one-on-one meetings will not eligible to be paid with client commissions under the proposed regulation, conferences are anticipated be eligible since they better meet the “substantive research” standard.  Expect to see more conferences, including virtual conferences.  Also we will see more analyst involvement in corporate access, moderating meetings and providing perspective, thereby providing grounds for payment with client monies.

OpenExchange is more likely to be a beneficiary of such a trend.  OpenExchange is a B2B video collaboration platform targeted to investor communications.  In June of last year the firm began collaborating with Ipreo to integrate its video capabilities with Ipreo’s investor relations product.  In September, the two firms announced they were adding OpenExchange’s platform to products targeted to the sell-side.

OpenExchange’s collaboration with Ipreo coincided with a $6 million Series B financing led by Ipreo and Barclays.


While it is virtually certain that the FCA will implement the rules proposed in its Consultation Paper 13/17, it would be simplistic to expect the estimated £500 million (US$833 million) UK corporate access market to simply evaporate.  Ingage intends to disintermediate investment banks by allowing corporates and investors to interact directly.  Larger asset managers inclined to do-it-themselves may find this attractive.  However, if Ingage fails to gain a critical mass of corporates and investors, its appeal will be weak.

More likely, investment banks will retrofit corporate access to meet the standards dictated by CP 13/17.  Tools such as Ipreo and OpenExchange, which already have traction on the sell-side, are better positioned to succeed in this environment.






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Franklin Templeton Sponsors Buy-Side Innovation Conference

March 3rd, 2014

Last week asset manager Franklin Templeton, held their inaugural “Alpha Innovation Required” (AIR) summit in Fort Lauderdale, Florida where a hand-picked group of interesting technology vendors presented how their products / services could help buy-side investors generate alpha.

Purpose of AIR

The AIR Event was the brainchild of Franklin Templeton’s SVP, Director of Global Trading Strategy, Bill Stephenson, who invited twenty technology firms to present their solutions to between 100 to 125 decision-makers on the buy side and sell side.

The attendees of the two-day conference included senior technologists/CTOs, heads of trading desks, COOs, research heads, strategists, and other similar types of industry thought leaders.  As the title of the event implied, the focus of these presentations was how these innovative companies could help institutional investors generate alpha.

Keynote Speakers

Every industry conference must feature interesting and thought-provoking key-note speakers, and the AIR conference was no different.   The keynote speakers who presented included:

Jeff Jonas, Fellow & Chief Data Scientist at IBM, got the conference off to a great start by providing an extremely entertaining discussion of the key issues involved with the use of “Big Data” to address a wide range of business questions.

Thomas Harrington, Chief Information Security Officer, Citigroup & former Associate Deputy Director, FBI gave an extremely interesting lunch speech on the lessons learned while leading the FBI’s Counterterrorism Division which can be applied to information security issues experienced by financial market participants.

Larry Tabb of the Tabb Group and Dr. Charles DeLisi, Founder of the Human Genome Project had a very revealing conversation about the lessons learned from the Human Genome Project and how they might apply to the investment community as it adopts “Big Data” initiatives.

David Schehr of Gartner Group, discussed how the “Nexus of Forces” including social interaction, mobility, cloud technology, and information are transforming the way the investment management industry will evolve in the future.

Innovative Vendors

Of course, the real focus of the AIR conference was the large group presentations and small group meetings made by the twenty hand-picked technology vendors.  Each of these vendors represented a few macro trends impacting the investment management industry.

The trends highlighted at the AIR event included the use of “Crowdsourcing” to generate alpha; the rise of “Big Data Analytics”; using “Visualization” to discover investment opportunities; and “Machine Learning” strategies in investments.   The vendors who presented included:

  • Aqumin
  • Armatnta
  • Ayasdi
  • Code:Red
  • Datawatch
  • Digital Reasoning
  • Discern
  • Dodilio
  • Essentia Analytics
  • Estimize
  • iSentium
  • Kensho
  • Narrative Science
  • OTAS Technologies
  • Portware
  • RavenPack
  • Social Market Analytics
  • Tibco
  • Trefis
  • Visible Alpha

Click here for brief explanations about each of these presenting vendors.


In my mind, the AIR conference was a success for a couple of reasons.  Not only did it highlight some pretty cool new companies and products, featured some entertaining and educational key-note speakers, but Franklin Templeton also successfully positioned themselves as an industry thought leader by inviting a number of their competitors to participate in this event.

Overall, I would recommend next year’s AIR event to any technology oriented buy-side and sell-side decision makers as it was extremely informative and quite unique as it introduced a small group of innovative vendors (many of whom were unknown to the attendees) to focus on how they could help buy-side clients improve their productivity and enhance their investment returns.  Of course, the fact that the event was held in Ft. Lauderdale during one of the longest and coldest winters in recent memory didn’t hurt either.



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Brokers Ban Controversial Surveys

February 26th, 2014

In the wake of BlackRock’s settlement with the New York attorney general over its surveys of security analysts, eighteen brokerage firms have agreed to bar their analysts from participating in asset manager surveys.  Separately, the quantitative hedge fund firm Two Sigma suspended its analyst survey earlier this month.

Brokerage agreements

The eighteen brokerage firms agreed to stop answering analyst surveys by “certain elite, technologically sophisticated clients at the expense of others,” according to New York Attorney General Eric Schneiderman. The interim agreements were part of the NY AG’s efforts to combat trading advantages secured by investors that win early access to potentially market-moving data.  The agreements cover all research on equities listed on US exchanges. The brokerages did not admit or deny wrongdoing.

Firms included in the deal are Goldman Sachs, JPMorgan Chase, Citigroup, Bank of America Merrill Lynch, UBS , Barclays Capital, Credit Suisse, Morgan Stanley, Deutsche Bank Securities, Jefferies LLC, Sanford C. Bernstein, Macquarie Group, FBR Capital Markets, Stifel Nicolaus and its units Keefe, Bruyette & Woods, Thomas Weisel Partners, plus two independent research boutiques, Vertical Research Partners and Wolfe Research.

BlackRock’s settlement

BlackRock settled with the NY AG in January, agreeing to suspend surveys that “allowed it to obtain information from analysts that could reveal forthcoming revisions to their published views” according to the settlement. The firm agreed to pay $400,000 to cover costs of the investigation.

According to BlackRock’s NY AG settlement,  BlackRock administered surveys from March 2009 to January 2013.  During that period the surveys collected 60,000 analyst answers indicating a corporate earnings surprise, either up or down. For the year ending March 2010, BlackRock collected almost 8,000 answers regarding potential acquisitions, the attorney general’s investigation found.

Information gleaned from these and other questions was fed into trading algorithms designed by BlackRock’s Scientific Active Equities unit, a quantitative investment group acquired when BlackRock bought Barclays Global Investors in 2009.

Two Sigma

Earlier this month, Two Sigma, an $18.1 billion hedge fund, agreed to suspend its analyst survey program which it had originated in 2008.  Two Sigma said its survey was intended to obtain public information rather than nonpublic information about the companies the analysts cover. It was considered to be one of the largest such surveys.

The program had been developed with the help of lawyers and included mechanisms intended to ensure it complied with securities laws. As part of the survey, analysts’ responses went to compliance personnel at both the analysts’ firms and at Two Sigma. The hedge fund viewed its survey program as a more transparent alternative to unstructured and unmonitored communications with analysts.

The surveys were sent to about 1,300 analysts, and Two Sigma paid the firms of participating analysts.


Academic studies have suggested that selective research dissemination has been a rampant practice among major brokerage firms.  The SEC fined Goldman Sachs $22 million in 2012 for its ‘trading huddles’ after a Wall Street Journal article highlighted the practice.  Otherwise, selective dissemination has been a low regulatory priority.

NY AG Schneiderman, who first learned of the BlackRock survey through a New York Times article, has labeled the survey practices “Insider Trading 2.0” and has vowed to continue investigating.   However, absent additional media exposés, it is likely this topic will now revert to the regulatory back burner.

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Business Wire Stops Direct Feeds To High Frequency Traders

February 24th, 2014

Last week, press release distributor Business Wire, decided to stop the practice of selling direct feeds to high frequency traders, much to the delight of New York’s Attorney General.  Business Wire is owned by Warren Buffet’s Berkshire Hathaway, Inc.

Background on the Story

Management at Business Wire decided to take action on this issue after The Wall Street Journal published an article on February 6th revealing that the press release distributor was selling direct access to its feed of news releases to high-frequency trading firms and other investor clients at the same time that traditional media companies receive access to this potentially market moving information.

The WSJ article explained why HFT firm’s were paying for the Business Wire feed:

“By paying for direct feeds from the distributors and using high-speed algorithms to crunch data and enter orders, traders can get a fleeting—but lucrative—edge over other investors, according to traders and people familiar with the practice. The reason: tiny lags between the time the distributors release the news and when media outlets send them out to the public, including other investors.”

Consultation with Warren

Despite the fact that there is nothing illegal about selling access to this information, or in trading on the information, Business Wire management was concerned that the WSJ article could harm their reputation.

This concern prompted Business Wire CEO, Cathy Baron Tamraz, to consult with her boss, billionaire Warren Buffet about the practice.  This was a highly unusual move as Buffet typically takes a “hands off” approach to business decisions made by the companies owned by Berkshire Hathaway.

Additionally, Tamraz also had conversations with officials in New York Attorney General Eric Schneiderman ’s office about the issue.  People familiar with the conversations said the AG’s office expressed concerns about the practice and encouraged Business Wire to end it.

Ultimately, Business Wire decided to stop selling access to its direct feed to HFT firms, forcing them to obtain this information from intermediaries like Thomson Reuters, Bloomberg, LP or Dow Jones.

Another Victory for NYAG

This decision was welcomed by New York Attorney General Eric Schneiderman.  In a statement, Schneiderman said that it’s “a tremendous victory for our effort to eliminate advance trading on market-moving information and a demonstration of Business Wire’s commitment to being a responsible industry leader.”

The Business Wire decision is the second time the New York Attorney General has convinced a firm to stop selling perfectly legal information to HFT firms and other professional investors because of what he saw was a new form of “market manipulation”.

Last year, Schneiderman’s office negotiated a deal with Thomson Reuters Corp. to stop providing early access to the results of the University of Michigan’s Consumer Confidence survey.  The attorney general became in the practice after details of the Thomson Reuters arrangement were reported in a WSJ article last June.

In a speech Schneiderman gave last September at the Bloomberg Markets 50 Summit in New York, he said the practice of trading on early access to publicly released information, which he dubbed “Insider Trading 2.0,” was responsible for “distort[ing] our markets far more than Albert Wiggin or Ivan Bosky or even Gordon Gekko could ever have imagined.”  Mr. Schneiderman said this practice required action from regulators and lawmakers in Washington.


The public pressure recently put on Business Wire, and the regulatory pressure Thomson Reuters faced last year, to stop selling legal, albeit market moving information to high frequency traders, is a clear sign that some important players are trying to eliminate the “unfair” information advantage inherent in these computerized trading strategies.

However, in our view this raises a big question, “Where is the line between a legitimate and an unfair information advantage, and who gets to decide when this advantage should be eliminated?”  Clearly, New York Attorney General Eric Schneiderman is hoping to make his name by leveling playing field between high frequency traders and the rest of the market.



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UK Asset Managers Promise Reform

February 18th, 2014

The UK trade association for asset managers, the Investment Management Association (IMA), released its long-anticipated report on research procurement earlier today.  Not surprisingly, the report opposes a ban on the ability to pay for research with client commissions, arguing that a restriction would disadvantage UK asset managers, reduce coverage of smaller capitalization stocks and erect barriers to entry for new asset managers.  The IMA urges UK regulators to coordinate any such ban globally, preferably through the International Organization of Securities Commissions (IOSCO).

In an effort to persuade UK regulators that a ban on research commissions is unnecessary, the IMA proposes a set of reforms to current research procurement practices, improving oversight, research budgeting and more transparency.  The report also calls on investment banks to more explicitly price bundled research.

Notably absent is any defense of corporate access, which will not be payable with client commissions under proposed UK regulation.  The IMA told Reuters that its recommendations did not mention corporate access because the regulators had already made their position clear on the issue.

While the IMA report contains no major revelations, it does signal the intent to reform current research procurement practices. Whether this will be sufficient to deter a ban on research commissions remains to be seen.  The comment period for CP 13/17 ends February 25, 2014.   The FCA intends to implement CP 13/17 later in the spring of 2014 and expects to release the results of its thematic review after the implementation of the changes proposed in CP 13/17.

The following is an outline of the IMA paper provided courtesy of Frost Consulting. Neil Frost was a member of the advisory panel that provided input to the IMA in the preparation of the report.

Initial Thoughts – IMA White Paper on Commissions


1. Rigorous defense of current system

2. Definitive call for any changes in commission to be in an international context through IOSCO

3. Clearer definition of research including sub-categories (SUBSTANTIVE)

4. Rejects that research producers cannot value research

5. Calls for price transparency from producers – threatens sequential declines in payment if they do not.


7. Risk of regulation impeding global flow of research

Risks of Banning Commissions

1. Lack of UK competitiveness in asset management.

2. UK research job losses

3. Reduction of asset manager competition through damaging smaller managers

4. Reduction in available research



1. Research budget setting – independent review (not portfolio managers) and internal consistency checks – CFO oversight, end of year audit.

2. That compliance not portfolio management should oversee the process

3. Oversight of the research commission allocation be substantially expanded, to the board level if research expenditures are as large as other expenditures which have to get board approval – increases risks to asset manager boards around commission allocation.

4. Keep appropriate (far better) records of research consumed.

5. Check research budgets against whatever quantitative measures exist.

6. Provide greater and more consistent feedback to research providers as to what products/ services are valued.


1. Asset manager reconciliation of CSA balances.

2. Re-papering of agreements to clarify FX and unused balances


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Morningstar Reports Disappointing 4th Qtr and 2013 Full-Year Results

February 17th, 2014

Last week Morningstar Inc., a Chicago-based provider of independent investment research, announced disappointing single digit revenue and earnings gains in reporting both 4th Quarter and full-year 2013 financial results.  A few days later, Morningstar announced a quarterly dividend of 0.17 per share.

4th Qtr 2013 Results

For the 4th Qtr of 2013, Morningstar reported consolidated revenue of $180.5 million — a modest 5.8% increase from $170.6 million revenue total recorded in the fourth quarter of 2012.  Wall Street analysts expected $184.30 million in revenue for the quarter.  Excluding acquisitions, divestitures, and foreign currency translations, Morningstar reported a revenue gain of 5.5% in the fourth quarter of 2013.

The firm reported $41.9 million in consolidated operating income for the fourth quarter, an increase of 6.7% compared with $39.3 million in the same period a year earlier.  Net income from continuing operations was $31.3 million, or $0.68 cents per share in the fourth quarter of 2013, compared with $27.8 million, or $0.58 cents per share, in the same quarter of 2012.  This missed Wall Street’s consensus EPS estimate for the quarter of $0.77 per share.

2013 Full-Year Results

For the full-year year ended Dec. 31, 2013, Morningstar reported revenue of $698.3 million, an increase of 6.1% compared with $658.3 million recorded in 2012. The firm also announced that operating income totaled $170.7 million in 2013, an increase of 13.3% compared to $150.7 million posted in 2012.

Net income from continuing operations was $123.5 million, or $2.66 per share, in 2013, compared with $102.9 million, or $2.10 per share, in 2012.  This was slightly better than Wall Street analysts’ consensus estimates of $2.62 for 2013 as a whole.

Joe Mansueto, chairman and chief executive officer of Morningstar, explained the most recent financial report, saying, “Despite a few headwinds, we had decent growth for the year, driven by strong results for Morningstar Direct, Morningstar Data, Morningstar Managed Portfolios, and Retirement Solutions. We had higher operating expense in the fourth quarter because of a step up in hiring as well as additional legal and professional fees. Overall, though, we’re pleased with organic revenue growth for the year and our prospects as we continue to focus on widening Morningstar’s economic moat.”

For more details on Morningstar’s most recent financial earnings report, click the following link

Dividend Announcement

A few days later, Morningstar declared a quarterly dividend of 17 cents per share, payable on April 30, 2014 to shareholders of record as of April 11, 2014.  This represents a $0.68 annualized dividend and a dividend yield of 0.84%.

This dividend is in line with the quarterly dividend Morningstar management paid out in the prior quarter, and is 36% higher than the 12.5 cents per share dividend paid out in the same quarter last year.

Integrity’s Take

While Wall Street expected better 4th Quarter results from Morningstar, we are more encouraged by the research firm’s performance. Clearly, Morningstar was able to maintain decent sales growth in the latter half of 2013, despite the fact that many Wall Street customers remained cautious for much of the year.  In our mind, the biggest issue for Morningstar is will it be able to keep its expenses in line with its revenue growth going forward, particularly as the firm continues to invest in a variety of longer-term projects.


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Benchmarking Research Spending

February 12th, 2014

As the UK’s Financial Conduct Authority (FCA) has increased scrutiny of commission spending on research, a UK-based consultancy has begun benchmarking commission spending to provide greater transparency on research pricing.  The survey is a sign that asset managers are trying to gain more control over their research spending.

Investit’s survey

Investit, a UK based consultancy for the buy-side, recently completed a Commission Analysis Survey designed to benchmark participants’ commission spending relative to peers.  The initial survey was conducted from May to November last year and included 20 asset managers.  The survey gathered information on approximately £800 million (US$ 1.3 billion) in commission spending for 2012.  The survey looked at trends from 2010 through to mid 2013. Approximately half (£400 million/US$ 655 million) of the commission spend was attributable to research.

The survey included multiple choice questions on governance practices, questions on commission budgets, and asked for detail on commission spending. Investit plans to update the survey with 2013 data and 2014 predictions in the coming weeks.  It expects to have 20 asset manager participants by year end.

Participants are primarily UK-based managers and do not include hedge funds at this time. Only a few US-owned managers participated.  Richard Phillipson, who heads the survey for Investit, doubts that the US firms’ hesitation reflects better controls: “Perhaps these firms do believe their commission-for-research governance is already in line with the criteria set out by the FCA.”

Integrity Research partnered with Investit in 2007 to offer a similar commission survey, but both parties abandoned the effort because of tepid asset manager interest at the time.  Investit revived the idea last year after UK regulators raised questions about how well asset managers govern their use of client commissions.  Results of Investit’s commission survey are confidential to each participant, but some participants have told the FCA that they have been a part of the project group, in an effort to demonstrate commitment to improving governance of commission spending.

Increased focus on research spending

Richard Phillipson sees evidence that UK pension funds are beginning to pay attention to commission spending by the asset managers they utilize.  Local authorities (municipal pension funds), county councils and sovereign wealth funds seem increasingly attuned to the issue.

Investit believes that the trend is for asset managers to negotiate research budgets on a sector basis as well as for country coverage.  Representative spending by sector might range from £30 to £50 million (US$ 50 to 80 million).  Going forward some asset managers will seek to cap spending by limiting the sector or country-level information received from each broker dealer.

The most surprising aspect of the commission survey for Phillipson was the expectation among participants that commission spending on research will be phased out over the course of the next few years. A small majority of participants think that the ability to spend client commission on research may be over in five years.


Investit’s ability to launch the benchmarking survey reflects heightened concern by asset managers to better manage their research spending.  Since significant cooperation is required from the benchmarking participants, it is no easy task to get such a survey off the ground, as we know from direct experience.   Participation in the survey will be a bellwether for asset managers’ receptivity to the FCA’s desire for improved governance of research commissions.

The lack of participation by US-owned firms reflects one of the challenges faced by the FCA: how universal would a no-research commission regime become?  While MiFID II might extend a ban on research commission payments to continental Europe, the reality is that most competition for UK asset managers does not come from Europe.

There is precedent for UK-led commission reform to become broadly accepted.  After the predecessor to the FCA implemented a more transparent commission regime in 2006, global asset managers began utilizing commission sharing arrangements (CSAs) to provide more transparency on the research portion of commission spending.   CSAs have become broadly used in multiple domiciles including the US, especially as asset managers have struggled to keep research providers happy during a declining commission environment.

However, CSAs required minimal support from other regulators.  The US Securities and Exchange Commission (SEC) issued a couple of no-action letters supporting CSAs, but otherwise did little to encourage a more transparent commission regime despite public promises by SEC commissioners to do so.  In contrast, a US ban on research commissions would require an act of Congress.

Paradoxically, despite the fact that the majority of participants in Investit’s survey believe that the ability to use client commissions to pay for research will go away, Investit’s success in launching a benchmarking survey actually makes it easier for the FCA to back away from an outright ban.  The survey provides a concrete sign that the UK asset management industry is heeding the FCA’s warnings without having to go the full measure.  The trick will be whether asset managers continue to benchmark even if the FCA were to move on to greener regulatory pastures.

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