Investment banks handling IPOs may not get the best deal for clients because they give more shares to buy-side firms paying the largest trading commissions.
This warning – from the Financial Conduct Authority’s Investment and Corporate Banking Market Study – claims that banks make IPO share allocations based on the revenue derived from ‘other business lines‘ including trading commissions.
It states: “Although these investors may be long-term holders and of benefit to issuing clients, there is also a risk that allocations do not align with issuing clients’ best interests and may shut out other investors.”
As a result, the UK regulator is to now investigate banks where the skew appears to be the strongest, as identified in this initial review.
The report states: “The strength of the skew… varied significantly by institution. The skew may also prevent smaller buy-side investors from gaining access to IPOs in the primary market.
“We will consider barriers to entry and expansion for smaller buy-side firms more generally as part of our ongoing asset management market study.”
The warning was one of a series of conflicts of interest noted in the review of banking practices in the UK.
However, it noted that “IPO allocations tend to favour investors who assist with the price discovery process, and long-only investors tend to receive more favourable allocations than other investors, including hedge funds“.
In a statement released along with the report Christopher Woolard, director of strategy and competition at the FCA, said while the study shows that many investment and corporate banking clients are getting a service they want, there remain some areas where improvements could be made.
He said: “Overall this is a package of proportionate measures intended to remove potentially anti-competitive practices.
“In addition, we want to start a discussion on changing the sequence of the IPO process to make the market work better by giving investors the right information at the right time.”