New York, NY – In recent months, a growing number of brokerage firms, investment banks, hedge funds, and mutual funds have slashed their staffs as the credit crisis has deepened and the stock market has plunged. One area of these firms that has evidenced fewer employee reductions has been the investment research departments. And while a few firms have taken advantage of the tumult at firms like Bear Stearns, JP Morgan, Lehman Brothers, Merrill Lynch or B of A to hire top notch analysts, very few firms are looking to bring on new equity research analysts in the current market environment. That is, except one new and unique research firm, called Access 342.
Relevant Market Conditions
We have written numerous times about the changing market conditions in the financial services industry. However, there are a couple of the major trends that we feel are important to point out that make the development of Access 342 particularly interesting.
The most critical issue facing all participants in the financial services industry is the likelihood that equity commissions will plunge next year in response to the current bear market in stocks, an anticipated plunge in trading volumes, and a continued slide in commission rates as more clients use low touch venues to execute their trades. Many analysts we have spoken with argue that equity commissions could fall 30% to 40% next year due to these factors. Consequently, a number of buy-side institutions have already started to cut back on their third-party research spending. Of course, the bulk of these reductions will be seen next year as commission pools plunge and buy-side firms will be forced to pay out considerably less as a result of their broker votes.
Another obvious trend that continues to plague the research business is the lack of price transparency in the industry. Everyone understands that different buy-side clients pay different amounts for same research services. It is also understood that a firm can pay different amounts for the same research depending on the amount of commissions they generate. However, it is unclear whether two comparable buy-side firms pay the same amount for the same research. In fact, in recent months, a growing number of buy-side participants have expressed concerns that they are paying too much for the research they receive from the sell-side. Unfortunately, there are no benchmarks to help them make this determination.
Most market participants acknowledge that the largest sell-side firms have huge fixed costs associated with their research departments. In addition, clients understand that they must subsidize younger less experienced analysts to get access to a sell-side firm’s best analysts. However, given the expected decline in equity commissions next year, and the lack of transparency around research payments, some buy-side firms are likely to resent that they are going to be asked to pay for these aspects of a sell-side firm’s research product.
A New Model for the Buy-Side
Access 342 is the brainchild of ex-Wall Street veteran, Robert Dewey. The firm has developed a unique approach to identify and price talented analysts that buy-side investment professionals have determined are value added to their investment process. A few of the interesting benefits for the buy-side include:
1. Source of High Quality Analysts: All the analysts provided will have been identified as highly valuable by the buy-side themselves.
2. Limited Distribution: These analysts will provide their research and insight to a limited group of buy-side clients. The value of their research will not be diluted by being widely distributed to investors.
3. Fair Price: All clients will pay the same market determined price for their research using a proprietary pricing mechanism. Clients will not have to worry if they are “paying too much”. In addition, clients will only pay for the analysts they want to, they won’t have to pay for anyone else.
4. Value in the Network: Clients will also have the opportunity to benefit from the insight and intelligence of the other investors who have also purchased the research analysts’ services.
Benefits for Analysts
Initially CEO Bob Dewey, and more recently President Steve Rudner, have spent close to 2 ½ years speaking with sell-side analysts about this idea. Consequently, the Access 342 model was created to be extremely attractive to the analysts involved. A few of the benefits of their model for analysts include:
1. Compensation: Analysts will be able to determine exactly how many clients they wish to serve, how much revenue they will generate, and they will be able to keep the lion’s share of it. Each analyst will be able to determine how much he/she wishes to make.
2. Control over Product: Analysts will be in complete control over defining the service they offer, what stocks they cover, and how best to serve their clients.
3. Focus on Research: Analysts will be able to focus most, if not all, of their time on producing the kind and quality of research that their clients’ value. They will not be asked to spend time on marketing to clients who are not willing to pay for their services, nor will they be restricted by regulatory requirements that hinder them best serving their customers.
4. Value of Peers & Network: Analysts will benefit from the fact that all of their peers will also have been determined to be the “best” by buy-side clients. They will also gain insight and ideas from their network of clients.
Implications and Assessment
By all accounts, Access 342 looks like a very interesting business idea that could help the buy-side in a number of ways, while also appealing to a number of sell-side analysts. However, it is also clear that Access 342 could have a few profound implications for the research business.
One of the most obvious implications will be price transparency for the buy-side and for analysts themselves. We suspect this will not be a good thing for most investment banks who will be forced either to pay more to keep their most highly valued analysts, or will find a new compensation benchmark for top analysts. In addition, buy-side firms will finally be able to get a “market price” of what they should pay for a top notch analyst.
However, it is also clear that not all equity analysts will either be appropriate for the Access 342 model. As mentioned earlier, Access 342 will focus on helping the buy-side get limited access to the analysts they value most. This will be a clearly defined minority of all equity analysts.
We also suspect that not all of these targeted analysts will feel comfortable leaving the relative stability of an investment bank or brokerage firm to work for a relative start-up. Fortunately for Access 342, the recent turmoil on Wall Street might make some of these top notch analysts more willing to give them a try today than they would have one year ago.
Overall, we are cautiously optimistic about the prospects for Access 342. The biggest question is can they convince a meaningful number of analysts who are valued by the buy-side to join the firm. The second big question is how the buy-side will respond to Access 342’s new proprietary pricing mechanism for analysts.