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New survival options for investment banks' equity researchers

For all the talk of the death of the equity research, investment banks want to hang on to their star analysts. The problem is, most of them are not happy.

There’s a ‘seniorisation’ trend in research teams, and to survive investment banks need to retain and hire star analysts,” says Nicholas Mather, CEO of independent research house TS Lombard.

“But these senior people are not happy. They’re working incredibly hard, traveling around the world and putting out maintenance research, rather than doing the real thought-leadership pieces,” he says. “It’s getting to the point where a lot of these stars will looking for alternatives.”

Much of this is down to regulation. MiFID II requires sell-side firms to separate research costs from other trading fees. Investment banks are still struggling to price this correctly, and budgets are shrinking among buy-side firms. The new team structure for research in in investment banking is an over-worked senior ‘star’ supported by some 20-something juniors.

There are obvious routes out – a buy-side job, a switch into investor relations, starting their own business or retiring.  But maybe it’s time to be bolder.

Mather estimates that around 15-20% the market for research is held by independent houses and believes this will get bigger. TS Lombard is an independent research house that focuses on macro trends – so to some extent he’s talking up his own book. But the firm also has a more interesting proposition to senior analysts.

Its division Trusted Sources Research Partners is building a “stable” of senior equity research analysts, where equity researchers will be given the chance to produce their own research, work flexibly and make money from the revenues their work generates without actually becoming an employee.

“A lot of senior analysts coming out of the sell-side have considerable value and huge investor following that they’ve had for years,” says Mather. “But they don’t want to be wage slaves, they want to take some control of their lives. We’re saying partner with us, generate valuable research for clients and we’ll provide all the regulatory, sales and infrastructure support. Revenues are split 50-50.”

TS Lombard has 22 analysts in its macro division supported by 18 sales staff and has been hiring. It took on Ken Wattret, a managing director and senior European economist at BNP Paribas, and Steven Blitz, the former head of fixed income at Lazard Asset Management, as managing directors.   And Mather says that the “door is open” to senior analysts who want a change.

Independent research houses with flexible working models are one thing. But with hedge funds and asset managers relying more on huge swathes of external data and using machine learning techniques to crunch it, researchers need to find an edge elsewhere.

Mark Pacitti, a former Goldman Sachs researcher and quant at hedge fund Citadel, has recently launched his own research firm Woozle. It aims to provide insight by pushing its researchers into the real world – getting information by talking to the right people, and conducting on-the-ground investigations.

He believes that traditional equity research is dying and needs to evolve. Being independent and free of conflicts of interest is one thing, he says, but simply shoving out research to clients is not the way to go.

“On the one hand, clients do want differentiated data, but you need to answer their questions,” he says. “We work with them to solve a problem or a question they have, rather than simply creating research in isolation and hoping someone reads it.”

One example is that he was asked by a “multi-billion dollar hedge fund” to investigate the impact of some new Lidl stores. He also claims that his approach is differentiated from the trend of hedge funds just consuming large data sets.

“As an example, a lot of people thought Moss Bros was going to have a great quarter because sales receipts were going through the roof,” he says. “But we knew that they’d launched a new website, that people were buying suits online but sending them back because they didn’t fit properly. This wasn’t factored in by most investors.”

Woozle is hiring, but Pacitti says that most analysts are not up to the job. “We need people to get out there, to roll up their sleeves and get dirty. It’s more like a private investigator job,” he said.

There are other options. Berenberg, the mid-cap German bank, is continuing to build up both its equity research and sales team in London. David Mortlock, head of investment and corporate banking, says that it aims to provide “bottom up, single stock” research that’s both in-depth and on a larger scale than research boutiques.

“There are a lot of research boutiques out there focusing on the 200 biggest stocks in Europe,” he says. “That’s fair enough, but I don’t think they’ve evolved a lot in line with where the industry is going. We’re covering 650 stocks in Europe including 300 companies with a market capitalisation of less than €3bn – a lot of small and mid-caps in the UK, Germany, Switzerland and Benelux.”

It sits between large banks and boutiques, he says. “We are a midsize merchant bank – there are not many banks of our size left in the market anymore that are not leaning on their balance sheet every day.”

Employment prospects for equity researchers remain shaky. Equity research teams were 50% smaller than pre-crisis levels in 2015, according to data from Edison Research, and another 300 have disappeared over the past 12 months. Further cuts look likely, particularly as buy-side budgets for research are getting smaller and most sell-side firms are still struggling to price their research accurately.

“Buy-side firms used to take global research from eight investment banks. Now they’re saying that they’ll take such research from three,” says Mather. “What I think will actually happen is that they will use four globally, but then also use sector-focused research from other firms or favour one bank over another regionally. Either way, it’s going to be painful for the banks.”

It’s tempting, like many senior analysts have already, simply to go for an easier life and start your own firm. But, despite doing so himself, Pacitti thinks the best option is to stick with the right bulge bracket bank.

“I still think it’s cyclical, rather then structural,” he says. “It’s tempting as a junior to leave and go and work for a tech firm, but if you can stick it out you’ll be well-placed when the market turns.”


Photo: Getty Images

AUTHORPaul Clarke
  • Th
    23 May 2017

    It's no secret that even the savviest of wealth managers are losing their hair over the gathering tsunami of regulatory burdens, but many don't appreciate just how unprepared they are for the new rules.

    There are some 200 days until MiFID II comes into effect. The fact that so many managers seem to have yet to start preparing might mean that they will rush to pick the easiest available option, whatever that might be.

    Here's a good read on why MiFID II will completely change the research market and cause casualties.

  • Ho
    Hong Kong Expat
    17 March 2017

    Interesting article and follows on from a series of articles that I see the FT has been running. 2017 seems to be the year that many people in the research business have finally realised that change is coming - and it's coming at the end of this year.

    I absolutely believe this is not a cyclical change in the market - this is structural. European research businesses have to charge the buyside hard dollars for their output from the end of 2017. Many of these buyside firms are part of large global firms and will most likely adopt the same processes in their US and Asian businesses as in their European arms - particularly because this will enable them to reduce their research spend, which is one of the key buyside drivers. There is no question that the pot of money paying for research is going to reduce - active managers are under constantly growing pressure from passive managers, AI-driven strategies can be seen to perform well, too much of the research that is published is driven by conflicts of interest implicitly or otherwise and much of it is of poor-quality.

    It's no surprise that the buyside would rather focus on a smaller number of serious providers that they pay for and whose services they value rather than receiving the deluge of "me too" notes that get spammed out from the large IBs and the endless voicemails repeating the same facts and conclusions as fifty others before them. If the sellside research business didn't already exist and we had to start it from scratch - would we really organise ourselves in the way we are today? My guess is no, we wouldn't.

    So is equity research as a business dead? No I don't think it is - but it is undergoing a rapid transformation from a cost centre to a business that needs to stand on its own two feet and make money on the back of its intellect, ideas and customer service.

    What changes are going to happen? I can see 5:

    1 The era of waterfront research is dead - very few firms will, in the medium-term, aim to be all things to all men; that will simply not be economic because no firm has the best (or even top 3) analysts in every sector. Focus on what you do best, invest in that, aim to get paid for it.

    2 Investment banks will continue to do research and the shakeout will not be immediate in terms of closures and substantial job-losses (on top of those that we've already seen). But there will be a gradual erosion in the number of people in equity research (and sometimes a less gradual erosion as individual firms which today have a mid-sized presence in research realise that the game is up and this isn't a business they want to be in).

    3 Independent research as a business will grow. Partly because independent research - in whatever form - is free from the conflicts of interest inherent in current sellside research. But it also has to be high-quality, insightful, responsive and, crucially, show that it can help investors make better decisions. Independent research firms will live or die by the quality of their research. If they write maintenance style "me too" research they will be cut by the big funds from the broker panels just as many of the investment banks are being cut.

    4 Talented, commercial, hard-working analysts with a strong franchise, relationship skills and a nose for the markets will still do well as equity researchers. But will they all work for the big IBs? Absolutely not. Having been an analyst and a Head of Research for 22 years across 4 continents it's nowhere near as much fun as it used to be (whatever John Cryan says!). It's hard work, the pay is much less than it once was (as it probably should be if you compare us with other serious professional careers such as lawyers and doctors) and the pressures and compromises in a large IB can be soul-destroying as the article highlights when it comes to "seniorisation".

    5 They will though face challenges that may well be unfamiliar to them. Writing high-quality, insightful research is only part of the challenge, as an analyst you now also have to sell it to your clients and get it produced in an unforgiving regulatory environment. Neither of the latter two challenges are easy. Large institutions are highly unlikely to want to take onto their broker panels dozens or hundreds of individual analysts covering a sector or a country, since that would be a hard process to manage. Similarly, as a regulated analyst we need to work for regulated firms to stand any chance of becoming a supplier of research to the buyside and earning our living. One of the biggest challenges for individual independent analysts is getting the balance right between writing good research, staying on top of developments in their sector and selling that research to their potential clients. The other is the regulatory challenge, the need to join with a regulated entity before being allowed to market to clients and potential clients.

    It seems to me that this is where the independent research firms come into their own - and there are a growing number of them around the market, some of which are mentioned in the article. They are likely to be on the broker panels of most of the big funds that will pay the bills, they are also going to be properly regulated (and quite probably even more tightly regulated as the industry develops) but are equally unlikely to create the levels of stress and politicisation evident in the large IBs. There will be stress on the analysts of course - but the stress will be that of developing insightful analysis, helping clients make better decisions and above all needing to run a commercially successful business in the research industry.

    This is a new world for us all.

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