Research in an Unbundled World

Buy-side firms are finding their way to new ways of profiting from their research, and market volumes appear unaffected in the early stages of the MiFID II era.

With the MiFID II era upon us, it seems buy-side firms are still scratching their heads about the best approach to unbundling research, although there are some clear patterns emerging.

Some firms are using the RPA (Research Payment Account) model and passing on the cost of research to clients, even as the administrative burden limits the positive P&L impact.

Firms that are ahead of the curve are covering research costs for all clients out of their P&L – regardless of jurisdiction. Others are adopting a hybrid model by moving to the P&L approach with their European clients and passing on the cost of research to the rest of the world. Firms acknowledge that while this model isn’t sustainable, it will give them better insights into their research usage and future budgets.

These factors are resulting in some dramatic price reductions from research providers, all suggesting this new era favours housing the research function internally.

Unbundle everything

What’s often missed is the fact unbundling is not only about research but everything that might be perceived as an inducement to trade including trading platforms, technology, data and even TCA (Transaction Cost Analysis).

EMS vendors are now changing their pricing model throughout Asia Pacific. They cannot justify giving away their front-end to the buy-side for free whilst continuing to charge the sell-side.

Buy-side firms should be asking how they pay for research, trading technology (EMS/OMS), data and TCA, as well as whether they receive anything for free which could influence the way they trade.

Best execution is still front and centre – though you wouldn’t be alone in thinking that even pre-2018 it should have been a desired outcome across the industry.

We are moving from a static best execution policy to a systematic process that aims to prove traders are doing their best and incorporating what they learn from their mistakes to continuously improve.

The intent is not to achieve 100% best execution (whatever that is); it is about getting better and having the process to prove it. Merely using TCA is no longer sufficient, as the switch to BXA (Best Execution Analysis) continues.

The BXA Workflow
(click to enlarge)

Stitching the Asia Pacific market together

2018 has arrived and the equity trading world is still functioning. We still have some uncertainty coming out of Europe and how ESMA (the European Securities and Markets Authority) will look at the Systematic Internalisers or Continuous Auction, however market volumes remain in line with the end of last year.

From conversations we have had across the APAC region, a few themes are emerging:

We have not seen any material change in bank run pools. It seems the closure of European broker crossing networks, moving into SI (Systematic Internalisers) or MTF (Multi-Lateral Trading Facilities), has had minimal impact even if a number of players are reviewing their pools and how they are functioning.

Block trading volumes continue to grow, Liquidnet’s own numbers are proof of the extension of ‘Large In Scale’ trading outside of Europe. Our trading volumes for APAC in 2017 were up 20% on 2016. Currently, 2018 volumes are over 100% on January 2017. A number of banks have built or reinforced their block desk last year.

Buy-sides have decreased their low touch broker list, anecdotal evidence suggest, concentrating on the top performers – the top five largest sell-sides gained market share against the rest of the street.

The shift towards low touch has left a lot of providers on the side. When scratching the surface, it is apparent that “liquidity providers” have reemerged in number. Not only do these providers get a chance to sell their research (no longer sent complimentary from bulge brackets), they also get orders from international players looking to interact with their flow which is only accessible if you are on the ground.

This confirms the findings from Liquidnet’s latest Shape Shifting piece, from Rebecca Healey, where 48% of respondents planned to execute small and mid-cap with regional specialists rather than super bulge brackets.

Undoubtedly, unique liquidity is still valued and paid for at a premium. Local players, unique liquidity and/or research providers will continue to see positive impacts on their market share despite not having the reach and profile of their global competitors.

This is the market challenge of the new era – how can local and cross-border international liquidity be stitched together.

Roland De Marsangy is Head of Business Development for APAC at Liquidnet, based in Hong Kong.

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