As part of the domino effect spawned from MiFID II, sell side research is losing customers and, as a result, reducing coverage. The sweeping European regulation has created more transparency for shareholders and investors and, through unbundling, has provided greater detail protecting the retail client. However, its effect on how research is consumed and delivered has been far more pronounced than regulators and industry participants anticipated.
Transparency has led to cost pressures and a reduction in research spending, which has had the unintended consequence of brokers and banks scaling back on the cost of coverage and has ultimately led to diminished output of published research.
The impact has forced banks to change their coverage models, cutting some small and midcap names out of the equation. While primarily felt across Europe, U.S. companies are now bracing for imminent change. This makes it more difficult for shareholders to receive insights and, conversely, for small and midcap corporates to ensure a broad spectrum of research opinions.
As a result, the quantity and quality of small and midcap equity research have declined. In turn, shareholders and corporates need to fill the gaps themselves, hindering price discovery.
While active portfolio managers can add value for their shareholders, corporates are left with the monumental task of managing a massive, diversified client base that brokers and banks helped establish through their own coverage and distribution.
Although asset managers do employ internal analysts to cut costs, the teams are typically too small to generate premium research due to the breadth of coverage, leaving significant gaps for shareholders and investors to decide whom they want representing their investments.
Portfolio managers are also left in an unsound position, being trusted by clients to provide informed and intelligent investment advice. While shareholders and corporates are expected to do their due diligence, options are limited for the buy side as increased competition from sell side and independent research providers continue to squeeze out smaller shops.
As I mentioned in my previous blog, margin compression and declining commission pools for research services are the byproducts of this shift in the buy-side and sell-side engagement.
As the capital markets landscape evolves, managing the firehose of information is crucial to delivering clients alpha-generating content and creating a more collaborative environment between market participants. Joining the ecosystem of innovation partners and utilizing a fintech provider such as Tier1 helps mitigate these unintended consequences.
Doug Christensen, VP of Strategy at Tier1 Financial Solutions.