TradeTech: Unbundling to increase scrutiny of execution

Full unbundling of research from commission payments will lead to an increased focus on execution quality in the coming years, according to speakers at TradeTech 2015.

Full unbundling of research from commission payments will lead to an increased focus on execution quality in the coming years, according to speakers at TradeTech 2015.

Speaking at the event in Paris today, Richard Seemark, head of European client trading and execution at UBS, said: “The result of unbundling as envisioned by the European Securities and Markets Authority (ESMA) is that it will end up putting the spotlight back on execution.”

Guy Sears, director of risk, compliance and legal at the Investment Association, agreed, saying: “This will give firms much more freedom in how they spend on both execution and research, so in 12 to 24 months time all we will be talking about is execution.”

With research payments set to be separated from the cost of executing and made more transparent for end investors, trading desks will have more freedom to pursue the best executing brokers independently of their portfolio managers’ research needs, but their decisions are also likely to be subject to greater scrutiny than before.

However, there remain serious challenges for the industry to be able to become unbundled, and the issue of pricing was highlighted by panellists as a particular concern.

KBC Asset Management has already unbundled following the implementation of MiFID in 2007, and its chief investment officer and managing director, Jürgen Verschaeve, outlined some of the issues it has faced.

“When it comes to valuing research, a few firms have been brave enough to be more transparent on their costs,” he said. “But demonstrating overheads can be particularly frustrating as there are a lot of additional costs such as covering phones calls and so on, which contribute to the final price but can be hard to justify to their clients.”

Nonetheless, KBC’s experience suggests that unbundling does lead to a net reduction in research spending, with its external research spending last year down 50% compared to 2007, though it has increased its spending on internal research.

Sears said the buy-side needs the sell-side to be more forthcoming on the cost of research, “it can be very difficult to govern a research budget if no pricing is coming from suppliers. Asset managers need to know what everyone else is paying to be able to understand the true value of research they are purchasing.”

However, the complexity of sell-side business models, particularly among the full service providers, adds to the challenge of setting a final price on any piece of research.

“It’s very hard to disaggregate costs for any individual client because each one had multiple different strategies and requirements at different times that make doing this without any cross-subsidy virtually impossible,” explained Seemark.

He suggested that one solution may be the introduction of different pricing tiers for clients, depending on the type of client they are and whether they are trading in small, medium or large-cap stocks.

However, in the institutional world, this could be simpler than many have made out. Verschaeve added: “Active managers demand a lot of research as part of their mandate, but this should also tends towards more specialised and bespoke research, which in many ways is easier to price than generic material that is currently distributed broadly across the client base.”

Buy-siders will also need to take a more precise approach to the way they acquire research as part of the rapid change being faced by the industry, according to Seemark. “The buy-side has been able to get away with being less specific about what they want, and so they currently get everything but in the future they will have to think about what research is most valuable to them. Either way, we will see a lot less research produced, because much of what is created today is of low value.”