New York, NY – Every few months, Integrity Research Associates publishes comprehensive reports on different segments of the alternative research industry. The next in this series of ResearchFocus reports, slated to be released in April, is a detailed study of the Forensic Accounting, Quality of Earnings, and Short Ideas research business.
As part of this research, Integrity conducted an extensive survey of mutual fund and hedge fund analysts and portfolio managers, to assess their current and planned use of forensic research and to obtain their feedback about their existing suppliers of this type of research. This survey revealed that a significant share of the market expects to increase their use of third-party forensic research in 2009. However, commission trends suggest that buy-side firms will actually be scaling back their use of external research this year. So which view is right? The following article discusses these conflicting outlooks for forensic research.
Increased Use in 2008
In the first quarter of 2009, Integrity Research Associates conducted a survey on the usage of forensic accounting, earnings quality, and short ideas research among pension fund, hedge fund, and mutual fund analysts and portfolio managers in the United States, Europe, and Asia. In this survey, we interviewed a total of 184 participants, 43% of whom are current users of this type of research.
Generally, the forensic analysis /short ideas research space is a sector that is counter-cyclical to the stock market-as the market declines, interest in this type of research typically grows. Conversely, prolonged market rallies can diminish investor interest in the research provided by forensic and short ideas research providers. As a result, some might conclude that interest in forensic research has grown over the past year.
This view was borne out by our survey. Slightly more than one fifth (21%) of all investors who currently use forensic accounting, quality of earnings, or short ideas research said that they increased their use of that type of research during 2008, while 17% of survey participants decreased their use during that same year. The bulk of the reported increased usage in 2008 was in the United States as 30% of U.S. investors reported that their usage increased substantially or modestly during the year. Asian investors who use forensic research saw their usage decline most during 2008, with 40% reporting that their usage decreased modestly during the year.
Planned Use in 2009
However, with the current economic downturn as extensive as it has been, research firms cannot be certain about their futures. The disappearing number of hedge funds, a lack of short opportunities due to the sharp and prolonged bear market, and plunging commission budgets are all likely to have a negative impact on the space. Consequently, Integrity was not sure what the buy-side would say when asked about their planned usage of forensic research in the future.
Despite bleak market conditions, 33% of all buy-side investors who currently use forensic research plan to increase their use of this type of research in 2009, while only 9% of existing users plan to decrease their use this year. The greatest planned increase in use of forensic research is expected to come from Asia as 70% of all Asian investors plan to increase their use of forensic research in 2009.
In addition, more than 10% of buy-side participants who currently do not use forensic research, indicated that they plan to begin using this type of research in 2009.
Does This Make Sense?
In normal times, we would expect this increased interest in forensic research to translate into an expansion in sales for third-party forensic accounting, quality of earnings, or short ideas research providers. However, these are not normal times. In fact, many expect that buy-side equity commissions will fall between 30% to 40% in 2009 – a development that is likely to have a significant negative impact on buy-side spending on third-party research.
One strange phenomenon that we have seen at some buy-side institutions has been barring new vendors from being paid. These asset managers argue that they are going to have to cut back payments to existing vendors enough, without having to worry about paying for new vendors. Consequently, these firms have decided to close to doors to new research providers.
Thus, despite increased interest from buy-side analysts and PMs, we think it is highly unlikely that the buy-side will spend more on forensic research in 2009 than they did in 2008. In fact, we would not be surprised to see some forensic research providers suffer significant revenue losses this year, particularly as many hedge funds close up shop, and as other buy-side clients make difficult decisions about how to effectively allocate their shrinking commission budgets.
For More Information
For more information about how to purchase Integrity’s upcoming ResearchFocus report on third-party Forensic Accounting, Quality of Earnings, and Short Ideas research, please contact:
Vice President, Sales
Integrity Research Associates LLC
53 West 36th St., Suite 1002
New York, NY 10018
Besides offering clients the ability to purchase ResearchFocus reports on a one off basis, customers can also purchase ResearchFocus on an annual subscription basis. In 2009, this subscription would enable clients to receive seven (7) comprehensive ResearchFocus reports. The topics of some of these upcoming ResearchFocus reports include: