Funds to cut fixed income research as EU rules shake up sector

LONDON: New rules on pricing investment research are shaking up the European fixed income, currency and commodity (FICC) industry, with many funds planning to scale back or ditch a service that banks use to drum up business.

Investment banks and other brokers have long provided research to funds as a way of attracting them to their trading business and there has never been a formal bill attached. However, they must break out the cost of the research and charge for it separately under the EU regulations, MiFID II, which comes into force in the new year.

Many funds using FICC research are concerned this will simply land them with an additional cost. Eight funds spoken to by Reuters said they expected to reduce the research services they use as a consequence of the reform. Their reactions supported the results of a poll of 270 fixedincome investors at a capital markets conference in London this month which found 59 percent had either not decided whether to continue using broker research or had decided to dispense with it altogether.

On the other side, the drop-off in demand could hit the investment banks, if funds consequently reduce the number of brokers they trade with. The new rules severely limit the amount of detailed research funds can receive for free.

The uncertain situation facing both banks and investors reflects the nebulous nature of the current arrangement in the FICC industry.

Unlike in some equity markets such as Britain, where funds already pay for research separately from trading, in FICC markets, it is open to interpretation how investors pay for the service — or whether they do so at all. “Given the fundamental differences in the infrastructure of the fixed income market, applying the same rules to FICC will create some difficulties,” said Jon Howard, chief operating officer at London-based hedge fund Anavio Capital Partners.

FICC research includes insight on macroeconomic trends and interest rate movements, as well as on currencies, commodity markets and corporate bond and loan issues.

Many funds say the cost is usually included by brokers in “the spread” between the buying and selling prices of the products they deal in — and if a separate research fee is introduced, then the spread should, therefore, be narrowed. Some banks, however, say research is just one of the several factors influencing the spread and that any narrowing is unlikely under the new rules, according to industry sources.

Given that, fund managers say they fear they will be left with a new bill for research and no proof that the spread has been narrowed by the broker to compensate them.

“Historically, that research cost is in the spread. Now the Street (investment banks) is telling you ‘we are going to charge you separately now,’ but that is not really going to make the spread change, I do not think,” said Matthieu Duncan, chief executive at French firm Natixis Asset Management.

Gildas Surry, a partner at Axiom Alternative Investments, which manages around $1 billion in assets, said the change would hit smaller fund firms harder.

“The cost of this adaption period will be dear for the industry ... It will generate more profits for the dealer community, but for smaller managers, it will be even more difficult for them to grow.”