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April 1, 2004

U.S. Eyes on the Soft' Battle of Britian


Another soft dollar battle is waging across the Atlantic in the United Kingdom, where soft dollars are under attack. The Financial Services Authority (FSA) is debating if the practice should be ended.

The U.K. debate on soft dollars was originally stirred up by the Myners' Report, an FSA document issued several years ago, which outlined a series of steps to improve trading practices. The report called for fund managers to develop their own research capabilities.

"Adoption of this recommendation would mean that current inefficiencies and complexities associated with practices such as soft commission and commission re-capture would be likely to cease," according to the Myners' Report.

In another report for the FSA, regulators have said that soft dollars distort the judgment of money managers. "That is because fund managers pass on the cost of the broker commissions to their clients (pension funds), who do not scrutinize commission costs as closely as management fees," according to "An Assessment of Soft Commission and Bundled Brokerage Services in the United Kingdom."

Soft-dollar arrangements lead to recklessness with client funds, according to the report. "This could reduce fund managers' incentives to exert pressure on broker commission rates, and result in over consumption of the additional services," the FSA report noted. The FSA recommendations under review, referred to as Consultation Paper (CP) 176, would end bundling practices. They would also limit the freedom of managers to let brokers use softing to defray operational costs.

There were fears expressed by some U.K.-based fund managers that they'd be forced to move operations offshore if local softing and bundling practices were crimped. In response, the FSA said it expected other regulators, such as the SEC, to act together. If the U.S. adapted the FSA measures, U.S. brokers would lose some $4 billion in annual commissions, according to Celent Communications, a securities industry consultancy.

Nevertheless, a stateside observer of the trading industry said that, if the U.K. ended soft dollars, it would have little effect on the U.S. trading industry. "The elimination of soft dollars in the U.K. would be a mere bump on the road for their markets. However, here in the U.S., they play a much more prominent role in our markets," said Robert Hegarty, an analyst with the TowerGroup. However, in the U.K, there is also some resistance to the idea. "A lot of people have filed comment letters and want to keep soft dollars," said James Duncan, a senior vice president of Canaccord Capital in Toronto, Canada. Duncan recently attended a Security Traders Association conference in London where he listened to opinions. He added that, "we all agree that there needs to be reform of soft dollars and better disclosure. But getting rid of them will hurt the smaller funds and the movement toward independent research firms."

The debate over softing will likely continue into the rest of this year in the U.K. An FSA spokesman said the group will "issue a further consultation on the recommendations later this year."