The Times They are A’Changin


A new study jointly authored by Greenwich Associates and Frost Consulting predicts that asset managers’ procurement of research will change radically in coming years.  Asset owners will scrutinize non-execution commission payments more closely, the ‘oligopoly’ of bulge bracket research will be broken, and asset managers will use more diverse sources of research.  Separately, a recent study by the Tabb Group finds European commissions have plunged 29% in one year, and anticipates that investment banks will restructure.

Commission Sharing Arrangements

Frost Consulting, a UK based consulting firm specializing in global equity commission unbundling and related market structure/regulatory change, collaborated with Greenwich Associates on the analysis of Commission Sharing Arrangements (CSAs) and how they are impacting the institutional equity markets.

Frost estimates that global institutional equity commissions were $33 billion in 2011.  Of this 33% were allocated to execution and the remaining $22.1 billion to advisory services.  The study argues that the execution portion of commissions has a high level of plan sponsor scrutiny through trade cost analysis, yet the larger portion of commissions is ignored: “the much larger non-execution commission market has been historically subject to little scrutiny.  But that is now changing.”

Pension Scrutiny of Commissions

CSAs provide more transparency for the amounts paid for research, and to whom.  In the US, the Department of Labor instituted increased reporting requirements for commissions, which the report argues will help increase plan sponsor scrutiny.

We are less sanguine about increased pension scrutiny than the Greenwich/Frost report, however.  The UK’s Financial Services Authority (FSA), the UK markets regulator, found that pension funds were paying cursory, if any, attention to the robust commission disclosure regime it instituted in 2006.  In the U.S., the disclosure implemented by the DOL was so watered down from its original version we doubt that it has had much impact.

Growth of CSAs

What is not up for argument is the success enjoyed by CSAs.  The Greenwich/Frost study notes that by 2012, 82% of the US asset managers surveyed by Greenwich Associates are using CSAs.  A recent TABB study found 70 per cent of European asset managers buy research using CSAs, with over 40 per cent now purchasing from independent providers.  Frost Consulting analyzed Greenwich data to show that in Europe the CSA share of total commissions has grown from 22% in 2008 to 41% in 2012.   In the U.S., CSAs have grown share from 18% in 2008 to 34% in 2012.  What isn’t mentioned is that CSAs are growing share in a declining commission market.

The recent TABB Group report found that commissions paid to European brokers fell 29 percent in 2012.  Payments dropped to 865 million euros ($1.1 billion) this year from 1.2 billion euros in 2011.  Exacerbating the pain, about 45 percent of respondents said they have cut the percentage of orders they route to traditional sales-trading desks (at higher commission rates), with 66 percent switching into computer algorithms (at lower commission rates).

The TABB report argues that in the current environment asset managers will no longer automatically turn to international bulge-bracket brokers for all investment services, but will cherry pick their requirements on an ad-hoc basis.  Like the Greenwich/Frost report, it expects further downsizing of investment bank cash equities groups.

Impact on Investment Banks

The Greenwich/Frost report argues that the increased use of CSAs is undercutting the research market share of large investment banks, as CSAs make it easier to pay other research providers.  It envisions a vicious cycle for the investment banks: declining market share will put pressure on capital allocated to cash equities, which increases asset managers’ reliance on other sources.  “Asset managers in turn will look to diversify their sources of research as they face greater scrutiny from pension fund clients over research spending.”

Other sources suggest, however, that the bulge firm share of cash equities has been growing, not shrinking.  The UK based consulting group, Coalition, which specializes in investment banking analysis, monitors cash equity revenues for investment banks.  Their analysis indicates that bulge firms’ share of cash equities has grown from 59% in 2009 to 61% in 2012.


The Greenwich/Frost report noted that asset managers still use a surprising large number of execution counterparties.  You would expect that the number of execution counterparties would decline as CSA usage increases.  Based on 2011 Greenwich data, Frost found that asset managers use an average of 115 execution counterparties and 103 brokerage firms for equity research.

The FSA found similar results in its 2009 analysis of CSA adoption.  CSA usage was up while the number of bundled brokerage providers stayed the same.  There was also a big discrepancy in what investors told the FSA and what brokers said.  Investors reported that 64% of their research payments were through CSAs while large brokers (who get the majority of payments) reported that 63% of their research payments were through bundled arrangements.

What nobody is discussing is the uncomfortable fact that commission allocations reflect other factors than execution and research, such as IPO allocations.  Even when IPO volume is down, asset managers are reluctant to cut out counterparties who may offer IPOs in the future.

Our Take

We agree that the growth of CSAs is a positive development for independent research, since they provide greater transparency and facilitate the usage of 3rd party research.  However, big incentives remain for use of bundled commissions.  In the U.S., there is far less regulatory and pension scrutiny of bundled commissions, making it easier for asset managers to pay on a bundled basis.   Among many asset owners, CSAs are equated with soft dollars, and are discouraged or required to be capped.  Bundled commissions allow the flexibility to pay for services which may or may not be legitimate, such as IPO allocations.

Bundled commissions aren’t going to go away unless regulators force the issue, and regulators have many other higher priorities at the moment.  The FSA declared victory on commission transparency in 2009 and for staffers at the SEC, commission transparency is a dim memory at best.

The dramatic decline in commissions will have far more impact on market structure than CSA growth.  Unfortunately this is a cruel process for all research providers, large and small.  It appears that the largest research providers have picked up share at the expense of smaller providers, but this may not continue, especially if investment banks are forced by market conditions to radically restructure their cash equity groups.  In the meantime, all research providers must try to weather the storm as best they can.


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