Independent equity research has been a double-edged business niche at least since the Spitzer settlements six years ago. Now the sector's ambiguous position - you could even call it schizophrenia - is coming to a head.
Citing data from consulting firm Integrity Research Associates, Bloomberg Markets magazine reports that the number of independent research firms in the U.S. has soared to 2,667 from 1,012 in 2006. But the crowded field appears set to shrink. Eleven independent research firms shut down in recent months, the magazine says. The Spitzer settlement that committed big 10 Wall Street firms to spend $432.5 million to supply independent research for their (mainly retail) clients expired last summer and has had no lasting impact, according to Integrity's Sanford Bragg. In its aftermath, independent firms have a mere 3 percent market share of institutional commissions allocated for research. Giant securities firms account for almost 70 percent.
"If the independents analyze their own business the way they analyze the industries they cover, they'll conclude what I did: The business is increasingly not viable," Scott Cleland, a former Wall Street telecommunications analyst who went independent but closed his own firm in 2005, told Bloomberg.
While Bloomberg's story cites a laundry list of reasons, it fails to come to terms with the single biggest factor behind both the formation of independent firms and their challenge of staying alive: Wall Street's historical practice of linking research access to trading commissions. Institutional investors are simply conditioned to get research for "free" - just as the media industry's short-sighted approach to the Internet taught all consumers of news to expect their information for "free" (and with similarly dire economic consequences for the professionals and businesses that generate the information).
When Wall Street settled charges from Spitzer and the SEC by agreeing to permanently cease using investment banking revenues to fund research, banks' research departments lost their primary revenue source. Banks' efforts to generate hard dollars from research have for the most part failed.
That, rather than ongoing threats to the independence and integrity of research opinions, is the underlying driver of the boom in independent research. And it's also the reason many recently formed independent research firms won't survive. After all: how many of those 2,667 firms have the skill to provide insights uniqe enough to command subscription fees ranging from $15,000 to more than $100,000 a year from a small list of clients, mostly hedge funds? Time will tell.
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