New York – U.S. IPO volume is up 300% so far this year, reinforcing the pendulum swing back in favor of large broker dealer research. IPOs garner higher commission allocations, and benefit the research departments of large investment banks in other important ways.
Renaissance Capital, an independent research provider specializing in providing IPO research, says IPO volume in U.S. markets stands at $8.1 billion through the end of February, compared to $2 billion during the same period last year. 2011 is off to a stronger start than any year in the last decade, according to Renaissance’s statistics. The test will be next month’s volume because when IPO markets get hot, quarter end volumes tend to spike as bankers compete vigorously for their places in the league tables.
Whether or not 2011 will be a vintage year for IPOs, the increased volume is bullish for the proprietary research of large investment banks. IPOs help banking research departments in a few ways. The most direct benefit is through increased commission allocations from institutional investors.
Equity commissions have declined significantly post-crisis, and there is fiercer competition for the shrunken pie. Access to IPO calendar is an important consideration for asset managers when allocating commissions to their research providers and this will tend to favor higher allocations to large investment banks at the expense of agency brokers, independent research providers and to a lesser extent, smaller investment banks.
IPOs also help the research departments of large investment banks in less direct ways. Research becomes more valuable internally as IPO volumes increase. According to David Folkerts-Landau, global head of research at Deutsche Bank, speaking in a recent Financial News article, “The single most important variable in winning investment banking mandates is analyst coverage.”
Although the Global Research Analyst Settlement (GRAS) puts restrictions on the interactions between research analysts and bankers, research’s contribution to banking remains invaluable. Folkerts-Landau elaborates: “There are very strict walls between research and banking, but there is a lot of general information that can be discussed, and equity research will often inform our investment bankers on a company and its strategy.”
Research analysts provide investors with information and pre-marketing around an initial public offering when a bank is marketing a deal (official coverage is embargoed for a period after the IPO is issued, creating opportunities for independent firms like Renaissance Capital to provide explicit research on IPOs).
Financial News cites statistics from Dealogic suggesting a strong correlation between research and banking. According to Dealogic, in three of the past four years, the bank with the highest Extel ranking for its research on a sector has also topped the league table for banking fees generated from the sector. Dealogic data shows Bank of America Merrill Lynch took the top spot in 2007 and 2008, while JP Morgan led the banking research rankings and fees in 2009.
Although GRAS does not permit banking personnel to provide input on analyst compensation, the contribution of research to banking success doubtless helps banks maintain their strategic commitment to providing research. Internal P&L’s for research are sometimes more art than science, given the bundled nature of investment banks’ equity products. The warm glow of banking business gained can’t hurt.