French regulators have gone on the record in their opposition to a ban on paying for research with client commissions, as proposed by the European Securities and Markets Authority (ESMA), the European-wide regulatory authority charged with codifying the MiFID II regulatory language. The explicit stance by senior French regulators is a strong indication of the depth of their opposition, but it also may signal that opponents are looking to rally support for modifying the draft language.
The influential financial publication, L’Agefi, published an interview on the topic with Benoît de Juvigny, secretary general of the L’Autorité des Marchés Financiers (AMF). De Juvigny expressed concern that the volume of research would be greatly reduced if asset managers had to pay for it out of their own pockets, and that this would have a negative impact on markets.
He envisions a retrenchment in the number of research providers, with only a small number of brokers offering research: “We fear a drastic reduction in the funds allocated to research and the result would be a small oligopoly of brokers following only large cap French companies, and that there would be less and less, or more no analyst on small and mid-cap stocks.”
As we have noted, the AMF has previously aired concerns about the impact of a ban on French asset manager profit margins, and that smaller asset managers would be less able to afford research than larger managers, putting them at a competitive disadvantage.
De Juvigny questioned the legitimacy of the proposed ESMA language, saying that reforming investment research was never intended as part of MiFID II. He seemed to favor striking the language banning payment for research with client commissions and proposing instead a study of potential reform. He also indicated that any reform should be done on a global basis otherwise European asset managers would be at a disadvantage relative to those in other domiciles.
It is impressive that the number two regulator at the AMF would come out so vehemently opposed to the proposed ban on research commissions. It confirms what we have heard from numerous sources about the disquiet felt by French and German regulators over a ban.
However, it makes us wonder why the AMF would choose to go public now, long after the public comment period on the proposed language has been closed. Did he feel the need to counter the UK Financial Conduct Authority (FCA) 59-page discussion paper supporting a ban? Was he enlisting support from fellow regulators in voting down the ban?
Based on the broad opposition to a ban, the large volume and diversity of negative comment letters on the draft language, and the opposition from influential regulators on the continent (now going public), we have greatly discounted the probability of ESMA going forward with a ban. On the face of it the interview in L’Agefi seems to support that view, but it does raise the question of whether there might be more regulatory support for the FCA-sponsored ban than is readily apparent.
For those who are French-impaired here is a crude translation of the interview with Benoît de Juvigny:
ESMA is proposing that asset managers pay for research out of their own pockets rather than with client commissions. What are the AMF’s thoughts?
The AMF is concerned. The language in ESMA discussed by regulators is completely at odds with everybody else. For the AMF, investment research is something extremely important. We fear a drastic reduction in the funds allocated to research and the result would be a small oligopoly of brokers following only large cap French companies, and that there would be less and less, or more no analyst on small and mid-cap stocks. It would make it difficult for SMEs to get financing. This reform could greatly reduce the amount of research available in the market.
What alternatives do you favor?
We do not advocate a particular solution at this stage, because we believe that the very principle of this reform in the context of MiFID II is questionable. It is a subject that was not really discussed at the political level. MiFID II is a text on investment services, is not a text on asset management, more importantly, it deals only with discretionary mandates and not with collective management. It seems to us that such a reform would first require serious study. I am not sure that everyone has thought through the potential consequences to the market. Finally, for us, such an initiative should come in a more international setting. European regulation will have a higher cost to European funds than to non-European funds.
Advocates of reform cite the risk of abuse in the pricing of research…
They raise good issues because the current system is far from perfect. The current regime risks some inflation in research costs through excesses around corporate access or how the costs are allocated among clients or the risk of overspending through brokerage commissions. Regulation has begun to address some of these issues. I do not say that it should not go further. But do we need to go to the extreme of revolutionizing the funding of research, risking a drastic reduction in the amount of research?