MiFID II: Assessing The Impact Of Research Unbundling

The business of investment research is entering a period of profound change. From January 2018, MiFID II will require research to be priced separately from execution. This represents a major shift from today’s practice whereby research is supplied as part of a bundle of services, with no explicit charge. Our report looks at the impact unbundling research will have.

The priority for management teams over the rest of 2017 is ensuring operational readiness and negotiating new relationships and commercial arrangements. Our industry discussions suggest that there is a huge amount of ground still to cover to ensure a smooth transition, and that much is still to play for as firms jockey for position.

But over time this regulatory change is also likely to have strategic implications. The total amount of research consumed is likely to fall, and who bears the current $5 billion cost of research is also likely to change.

The suppliers and providers of research must be prepared to respond to a market that is likely to adapt rapidly over 2018, and may move towards a competitive structure that is both more concentrated and more heterogeneous. Research unbundling looks set to increase the advantages of scale on both the buy and sell side, pressuring mid-sized players. Yet, it will also create opportunities for specialist models that can offer what the larger firms cannot.

The impact of research unbundling on the buy and sell side

Research unbundling comes at a time of heightened pressure on investment manager fee structures, with many managers looking to build scale and drive cost efficiencies. Research providers offering access to quality content at competitive prices will be well placed to meet their needs. Investment managers are also redoubling efforts to demonstrate differentiated performance, and this will accentuate demand for access to insightful content from providers with a true edge.

Banks can respond to unbundling with tactical changes in the way they produce research, cover its cost, and approach sales coverage across FICC and Equities. But with $1.5 billion in potential lost revenues and a new jockeying for position across banks and independents, research providers are entering a critical phase.

With many operational steps to be worked through and uncertainty about how far and how fast the change will run, few will make bold strategic moves before 2018. Yet with the environment likely to evolve rapidly, executives would be wise to prepare a playbook and think through a range of strategic options.

Key findings of our MiFID II research

Research providers and investment managers expect to see a reduction of between 10-30% in research spend, with some as high as 50%
To reduce operational complexity, costs and compliance risks, many investment managers plan to take this approach globally
A key decision for investment managers is whether to pass on the 1-3bps cost of research to clients. If they do, they will need to justify the spend. Given the complexity of the decision, many are still undecided.
We estimate a combined reduction of spending on research and execution of ~$1.5 billion, potentially rising to $3 billion if a full-blown price war emerges, with the greatest impact felt by lower-quality research providers
The overall impact is only a 1-3% reduction on total Equities revenues and not sufficient to lead to wide-scale withdrawals in research
While small, the revenue pressure from unbundling will be a further challenge to profitability in Equities, in an industry that has become heavily scale-driven. We estimate that over the last three years the largest four banks have captured 70% of all profits available, up from 50% in 2012.

More information

For more information on the impact of MiFID II on research unbundling download the full version of the report.