It's been a year since the MiFID II regulations came into play, and the asset management industry has undoubtedly seen a shakeup. With absorbing the costs of research becoming the norm amongst most, the first year has been somewhat of an experiment. Up until now, research providers have had their say being given free rein to price their research as they see fit. However, the CFA Institute has recently warned that research providers have "weathered a shakeout" as investment managers sought to "re-calibrate" their needs under the new regime.
This could partly be due to market conditions. 2018 saw the worst performance of the FTSE since 2008, so to push up research costs at a time when fee income will be down would be counter intuitive. But the changing research landscape must also be taken into account. Asset managers have grown accustomed to paying for their research, so will have a years' worth of data on how they consume research and will be some way towards a framework for assigning value to it. Now that the dust is settling they are in prime position to start making some changes.
We could start to see some cost cutting taking place. MiFID II's focus on increased transparency certainly has a role to play here. Now that shareholders have access to a breakdown of how their money is being spent, funds need to be able to demonstrate that they're getting good value from the research that they're paying for. While this is beneficial for the end investor when it comes to cost optimisation, the cost cutting of research budgets will no doubt result in revisiting the number of research providers. This could have some worrying effects.
Take smaller stocks for example. MiFID II inevitably means a reduction in the number of analysts covering various companies. One need only look at Glaxo Smith Kline, it has had a 20% reduction in analysts covering it (from 36 to 29). But take that many away from a company at the smaller end of the market and some businesses could lead to a dramatic loss of coverage and exposure.
As a case in point, if a company loses analyst coverage from say 4 to even 2 analysts, they could be losing out on getting in front of the right investors, just as investors could be missing the right company for them if access to a provider is removed due to budget constraints. This could result in a change in the way advisers approach the IPO process, as investors may avoid participating in the IPO if they don't have ongoing coverage with an analyst. Businesses may favour a two-broker approach when listing in order to increase their chances of getting in front of suitable investors and keeping better analyst coverage.
Taking all this into account, 2019 is shaping up to be another transformative year for research consumption. Asset managers are likely to take the new year to analyse their usage over the course of last year and the coming year and differentiate the gold from the brass when it comes to value adding research. This will undoubtedly be a difficult balance to walk. Hopefully as this unfolds a framework will emerge which can benefit the end investor, without hurting smaller businesses or boutique research providers.
Nick Burchett is head of UK equities at Cavendish Asset Management
