Note: This article was originally published for ResearchWatch subscribers on April 7. It was the first commentary to be published on the Delegated Acts. Given the impact MiFID II’s new research payment rules will have on the global research community, we are reprinting the main body of the article, excluding ‘Our Take’, for broader readership.
The European Commission released the Delegated Acts for MiFID II, containing new rules regarding investment research as an inducement. The rules include a significant provision requiring investment banks to put a price on their research. The rules can be found at https://ec.europa.eu/transparency/regdoc/rep/3/2016/EN/3-2016-2031-EN-F1-1.PDF. The section relevant to investment research begins on page 26.
Here are the headline items:
- Commission sharing agreements (CSAs) are permissible for funding research payment accounts (RPAs). All the provisions pertaining to RPAs apply.
- Investment banks may only charge for execution and if they provide any other services beyond execution, such as research, those services “shall be subject to a separately identifiable charge”.
- Fixed income and other asset classes beyond equities are not exempted from the rules.
- Asset managers must provide a defined research charge to clients and clients have to agree to the charge, but budgeting is an internal administrative matter and does not need to be disclosed per se, other than as the charge to the client.
CSAs are ok
The draft language we saw in December allowing CSAs was incorporated into the final rules, along with other changes that make CSAs permissible for funding RPAs. This language is now item 3 of Article 13:
“Every operational arrangement for the collection of the client research charge, where it is not collected separately but alongside a transaction commission, shall indicate a separately identifiable research charge and fully comply with the conditions [pertaining to an RPA].”
In addition, the language banning a link to client transactions has been moved so that it applies solely to the research charge itself. In other words, the research charge to the client cannot be linked to transactions, but the funding for the RPA can.
The final rules require execution providers to put a price on research services:
“An investment firm providing execution services shall identify separate charges for these services that only reflect the cost of executing the transaction. The provision of each other benefit or service by the same investment firm to investment firms, established in the Union shall be subject to a separately identifiable charge; the supply of and charges for those benefits or services shall not be influenced or conditioned by levels of payment for execution services.”
There is also language saying that CSA providers have to make timely payments, which will doubtless make independents happy.
Focus on research charges
The final rules have rearranged the wording pertaining to budgeting. Budgeting is an “internal administrative measure” which is linked to the research charge but seemingly distinct from the broker vote-type requirement to “regularly assess the quality of the research purchased”. Asset managers are required to provide written policies explaining how they assess research quality but the requirement for written policies is not explicitly linked to sections pertaining to budgeting. You can be sure that investment company lawyers will be parsing the revisions with Talmudic attention.
Disclosure requirements remain similar. Asset managers need to disclose the research charges and amount of budgeted research spend for each client a priori and the actual research charges annually. On request, they must “provide a summary of the providers paid from this [research payment] account, the total amount they were paid over a defined period, the benefits and services received by the investment firm, and how the total amount spent from the account compares to the budget set by the firm for that period, noting any rebate or carry over if residual funds remain in the account.”
Now that the Delegated Acts have finally been published, the baton is passed from Brussels to each EU member county’s security regulator to incorporate the language into their local securities regulation. The UK Financial Conduct Authority had originally planned to release a consultation paper in June 2016, allowing three months for comments with a view of implementing revised regulation in September 2016 to go into effect January 2017. However, the European Parliament has voted to push back the implementation deadline by a year to 3rd January 2018, so the FCA has more time to draft its consultation paper if needed.
ResearchWatch subscribers can access the original article http://www.integrity-research.com/final-mifid-ii-rules-released-banks-required-to-disclose-research-fees/ to view our commentary on the new rules.
From Jon Foster of SmartKarma:
I read with a lot of interest your excellent commentary on MiFid2. I would only comment that reduced research spend is only a pyrrhic victory for independents if they remain addicted to maintaining the current fragmented and inefficient pricing structure. Far more of them than perhaps you think recognise this. If they find a far more efficient means to create and distribute work, and can do so in a way that is both far more economically efficient and promotes higher quality, (and recreates the convenience of the large investment bank “access to everything” model)..