New regulations on how asset managers can spend money on research may have a chilling effect on equity research revenues in the UK. Starting on June , asset managers may only use client money for substantial research that leads to a meaningful conclusion that provides real value on trading decisions. These regulations, levied by the UK’s Financial Conduct Authority, are technically cited as a clarification, but have been spurred by complaints of excessive bill padding by UK investment houses.
According to Richard Phillipson of Investit, says that sell-side research is currently a £1.5bn business, and that the FCA’s “warning” would constitute a chilling effect on the industry. Asset managers would be forced to draw up itemized budgets for each research item, and that fund managers would have to act as a filter and second guess their research projects, lest they run afoul of the regulations.
The argument in question is whether or not this pre-disposes funds researchers to be more conservative on what they actually will research, due to the wide range of interpretations the new clarification will induce. In essence, budgetary control means that less money will be spent on shot-in-the-dark research prospects, and asset managers will see this as a restriction on the kinds of things they can spend on. The “clarification” also includes bans on spending client’s money to buy access to the executive teams in firms being targeted for investment.
Global Trend, Local Action
Globally, since 2007, commission payments on equity management have dropped by over 40%, and this has led to a reduction in the workforce – to fewer than 9,000 analysts worldwide. Many funds were using research costs as a way to bridge the income gap from reduced commissions. In Europe, the decline in commission revenue has caused several banks to leave institutional asset management, including heavy hitters like the Royal Bank of Scotland and Lloyds.
Dissenting Percentages and Implications
While Phillipson’s analysis, a fund management consultant, claims a decline in research income of 50 percent or more, Neil Shah, director of research at Edison, feels the new regulations will cause a decline in spending of 10-15 percent, and a comparable reduction in commission earnings. Shah’s more forward-looking statement is that this regulation will turn out to be a further competitive advantage for larger firms, which can expand in-house research teams and commoditize the process.
Multiple analysts are concerned that the FCA regulations will become ensconced in EU law regarding asset management and hedge fund behavior. According to Mr. Sears, director of risk at the UK Investment Management Association these points are already under discussion by the European Securities and Markets Authority.