MiFID II and Research: What’s the Exchange Rate between a Soft and a Hard Dollar?


The following is a guest article by Mike Carrodus, founder of Substantive Research, a curator of daily macroeconomic research from sell-side brokers and independents.

 So that’s it, game over. The past two weeks have seen a paradigm shift in the way asset managers will pay for research. The debate over how the fund management industry will fund research under MiFID II has concluded. Aviva Investors, Aberdeen Standard Investments, Newton IM, Blackrock, Invesco, Schroders, AXA IM, Union Investment, Allianz GI and Janus Henderson amongst others have joined the ever-increasing list of firms announcing that they will not continue to charge asset owners for the external research they buy.

So is this good or bad?

  • Good for asset owners if you believe that asset managers won’t cut research so far that performance suffers, which could dwarf any cost benefits.
  • Good for quality research providers with a differentiated product if the current rush to the bottom for sell-side pricing doesn’t make the economics unsustainable for them.
  • Good for asset managers if they can still get what they need externally, only now at a lower price without the cost and distraction of the RPA operational burden.

These are three very big ifs. And they depend on one thing. The ability and determination from asset managers to source the best research for the investment function’s process quickly and efficiently. If a great deal of money leaves this market without a robust process to find and consume the best, then the distortions brought about by aggressive pricing and unraveling budgets will harm everybody.

What does it mean for the industry? Three things:

  1. We will discover the exchange rate between a soft and a hard dollar. Once these costs hit the P&Ls of asset managers the scrutiny on research budgets can only increase. And no one believes that the exchange rate will be 1:1 when the money comes from profits instead of clients. If it’s 1.50:1.00 – as we estimate it is – then we lose $1.5bn from this market in a gradual but inevitable trend.
  2. The gatekeeper of this budget now becomes the CFO. They might demand less operational burden than the regulator, but their focus on these costs will be continuous and detailed. They do not respond well to qualitative and anecdotal arguments for high cost items in the midst of margin compression. So valuation of research remains key.
  3. Valuation of research can become a much less distorted process. A key risk of the RPA/enhanced CSA structure was a process that focused on compliance instead of real value. Valuation still has a compliance element to prove the lack of inducements, but with the P&L approach in place firms will move to focusing on alpha when it comes to research procurement. But how? PMs do not feel that the alpha in external research is from its predictive accuracy. Fund managers do not consume research for the BUY recommendations. They use the external research that matches their process for context, data, ideas and knowledge, so any valuation process has to incorporate these factors.

Once firms figure out how much they use and how they value their existing providers then the next step is comparing that with what else is out there – which is a lot of good research of all styles and areas of expertise.

P&L funding for research will accelerate this trend. Plummeting prices will only help asset managers if they’re informed by the quality and suitability of the research being sold to them – some providers will justify a premium, but who? That depends on the match to each client and each individual PM’s needs.

Some asset managers (especially the mid-sized ones) may continue with the RPA route as P&L may not be an option if they want to keep their investment process on track. Some have already demonstrated a commitment to procurement rigour that went beyond box ticking, and may still feel that a robust RPA is completely justifiable and aligned with an asset owner’s best interests.

Regardless of funding method asset managers will be determined to wring value out of every dollar of their research budgets. The good news is that ROI from research can be increased enormously – with better discovery, assessment of quality and collaboration across desks.

Substantive Research would love to swap notes on research valuation with anyone interested in the debate in this new funding environment – email us at info@substantiveresearch.com !


About Author

Mike Carrodus founded Substantive Research, a research curation, comparison and valuation service in early 2015 with two goals in mind: to match research providers and PMs using a bespoke, data-driven process, and to help asset management firms ensure that they were consuming the highest quality research at the cheapest price. Substantive has a bi-weekly readership of over 1,000 buy-side professionals who use their newsletter as a key identifier of the best thematic work. Prior to starting Substantive Research in April 2015, he was Global Head of Institutional Sales at Ned Davis Research, one of the leading independent investment strategy research providers.

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