The latest Greenwich U.S. Equity survey (see yesterday’s post) shows the bulge bracket investment banks’ share of the equity research vote declining while the trading share remains constant. In other words, analysts and portfolio managers at asset managers value the research from smaller brokers and independents more highly, but the trading goes to the bulge firms anyway.
In Greenwich’s 2011 survey covering the period ending the first quarter of 2011, bulge banks controlled about 64% of the institutional research vote. In the latest survey the share of the vote has fallen to 56%. The share of mid-sized, regional and sector specialist brokers increased to 37% in 2013 from 32% in 2012. Independents grew to 6% from 4%. (We think the Greenwich surveys tend to understate the share of independents because the survey concentrates mainly on large long-only managers, whereas the sweet spot for independents is hedge funds.)
Over that same period, however, the bulge’s share in equity trading was essentially unchanged at just over two-thirds. In the context of an overall commission pool that has been steadily and dramatically shrinking, Greenwich concluded that: 1) The decline in commissions has not yet forced institutions to retrench in terms of the research providers used in their investment processes, and 2) Non-bulge brokers and independents are increasingly under pressure to capture what they view as adequate compensation for the research and services they are delivering.
The survey results illustrate the fundamental frustration of the broker vote process: analysts and PMs vote for the research firms that have provided them good research, but in the end the commissions are directed to the counterparties the traders like. Commission Sharing Arrangements (CSAs) help to mitigate this process, but we are hearing most CSA brokers say that CSA volumes are flat even as overall commission volume is rising.
According to the Greenwich survey, the firm capturing the highest commission share was Bank of America Merrill Lynch with a 9.1% trading share in trading, followed by Morgan Stanley, Credit Suisse, J.P. Morgan and Goldman Sachs, with trading shares ranging from 8.1% to 8.4%.
Greenwich said J.P. Morgan captured the highest share of U.S. equity research with a 10.9% share of the institutional research vote. Robert W. Baird captured the lead for coverage of U.S. small- and mid-cap stocks, with a market penetration of 67%. Baird also received top marks for the quality of its research and analyst service/sales support.
Goldman Sachs was the top rated firm for the quality of its U.S. equity trading, and J.P. Morgan received top quality marks for its U.S. equity sales.
The disparity between the broker vote and actual payment illustrated in the latest Greenwich survey is the reason many independents focus their attention on hedge funds, which are more direct in their payments for research they value. The vote process is biased toward the bulge banks, which have the sales staff to sway votes, and, failing that, the trading relationships to ensure that commissions come to them anyway.