The UK government will move forward with plans for a one-stop-shop research platform, as it edges towards plans to reverse the EU-inherited ban on free research for clients.
Hogan Lovells lawyer Rachel Kent – who has led the UK’s Investment Research Review under the Edinburgh Reforms – today revealed her recommendations which includes paving the way for a new ‘Research Platform’ that will provide a one-stop-shop for firms looking for research experts.
The UK Government announced that it has accepted Kent’s review which also sets the path for potentially removing the unbundling rules – an inherited EU law that requires brokers to charge a separate fee for research.
The reversal comes as part of efforts to boost the attractiveness of the UK’s financial services sector and becomes the latest divergence in regulation from the EU following Brexit.
In response to the UK’s decision to potentially reverse the ban on free research, Adam Farkas, chief executive of the Association for Financial Markets in Europe (AFME), said: “AFME members are supportive of the UK Government’s approach to the provision of investment research which allows for more flexibility in that clients will have the option to choose how they pay for the research they consume, whether bundled or unbundled, by removing the requirement on market participants to unbundle which is currently contained in the EU’s MIFID II legislation.
“It should also be noted that the investment research market is inherently international and further changes to the UK’s regulatory and legislative environment in this area should prioritise, where possible, alignment with other jurisdictions. It should also provide a level playing field for both UK providers and consumers of research competing with international counterparts. AFME notes that similar themes are being addressed in ongoing discussions by other policymakers, and it is important for the respective UK initiatives to take account of developments in other jurisdictions such as the US and EU.”
Other recommendations from Kent include allowing greater access to investment research for retail investors, involving academic institutions in supporting investment research initiatives and reviewing the rules relating to investment research in the context of IPOs.
The unbundling regulation, which was introduced under Mifid II, required firms to separate the cost of investment research from trading costs – with the aim to increase transparency and reduce conflicts of interest.
However, many critics argued that it has had a negative impact on the industry, including a reduction in the amount of investment research available. The legislation also saw fund managers reduce the number of providers that they used to access research.
It has been suggested that the move across Europe has led to a lack of competition in the research market, with larger providers who are able to subsidise their research department being favoured. Other knocks against the rules claim that unbundling reduced research coverage, quality and the number of analysts, and dented liquidity in certain stocks.
However, a few years after the implementation of research unbundling, the European Securities and Markets Authority (ESMA) claimed that there was no material evidence of harmful effects from the Mifid II rules for research payments.
In a report which included results of a study of 8,000 EU companies between 2006 and 2019, analysing the impact of unbundling on EU sell-side research, ESMA found that the number of companies losing research coverage has been steadily falling since 2012 – arguing that this did not coincide with the MiFID II regulation.
Despite this, the ban has resulted in difficulties surrounding the access of research as well as how other jurisdictions tackle regulatory compliance when dealing with each other.
The UK government’s decision to potentially reverse the ban on free research for clients comes days after the Securities and Exchange Commission (SEC) allowed its no-action letter to the Securities Industry and Financial Markets Association (SIFMA), based on enforcements surrounding research services, to expire. Unlike in the EU, the US has an opposite approach, with the SEC requiring research to be paid in commissions alongside a trade – disallowing research to be paid for in cash.
To resolve the disconnect in approaches, in its 2017 no-action letter to SIFMA, the SEC advised that it would not recommend enforcement action to broker-dealers accepting cash payments for research from investment managers which are required by Mifid II to pay for research from its own money as opposed to client commissions or ‘soft dollars’. However, this notion has been allowed to expire by the SEC, leaving more uncertainty related to regulatory compliance surrounding research.