Some notes from June 8’s Investorside Independent Research Provider Conference. Integrity Research also blogged about this event. 8:45am-9:00am Welcoming Remarks from Investorside
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John Eade: Retiring as Chairman of Investorside, and turning over Chairmanship to Stanton Green of Vista Research.
Investorside founded with 2 firms (Argus and Precursor), and now has 73 members.
He thanks board, including: Stanton Green Lisa Shalett Mike Mayhew Doug Atkin Howard Shilett Scott Cleland 9:00am-9:50am Panel 1: Soft Dollars: Guidance on New Rules and New Trends Featuring leading industry representatives and regulators discussing the new framework of client commission usage in the US and UK John Meserve (Moderator), Director, BNY Jaywalk & Westminster Research Associates/BNY Securities Group, new board member of Investorside.
Member of SIA’s Institutional Brokerage Committee & Alliance in Support of Independent Research.
Worked with Bush transition team on behalf of Mossbacher; worked in US Dep’t of Commerce during Reagan administration.
Jon Giblin, Lehman Brothers, responsible for electronic marketing efforts and US soft dollar efforts David Quinlan, President, Eze Castle Software, and investor in Code Red Alex Vasilescu, Securities & Exchange Commission, trial committee
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John Meserve: 3 years ago there was pandemonium that soft dollars to purchase independent research would be banned.
That’s not happening either in the US or UK.
Regulatory authorities have repeatedly said that independent & proprietary research should be treated equally.
Also good news for indies: – trend towards unbundling – reduction in coverage by large firms To the audience: Don’t miss your time to perform in this space! Transparency & disclosure train has left the station.
UK market has made bold strides on how commissions will be managed going forward. UK approach is bleeding into US market.
Billed as ‘Big Bang 2’ by Paul Miner, of Miner’s Report on Investment Practices. Managers will need new tools, new systems, & new approaches .
A new financial services sector is growing, just like TCA sector (Transaction Cost Analysis).
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Alex Vasilescu, Securities & Exchange Commission, trial committee I’m speaking from enforcement perspective, against people violating Section 28e Safe Harbor.
11/25/2005: Commission responding to a decade of evolution of soft dollar practices Gave guidance on what will be appropriate practices for obtaining safe harbor.
Clarify scope of both brokerage & research services.
28e is about providing advice regarding investing/selling/availability/purchasing of securities.
Not qualified: Overhead, travel, phone lines, furniture, rent, accounting services, salaries.
As money managers and B/Ds are required to give full disclosure, it benefits the independents.
Service has to relate to subject matter of the trade. Another area of discussion: mixed-use items, e.g., a tool for both analysis & marketing.
Burden is on money manager to break out those two categories.
Many advisors are urging buy-side clients to make this disclosure because they have legal exposure otherwise.
3rd party research can’t be completely divorced from the trade.
Legally, broker-dealer (B/D) must be on the hook for payment to 3rd party.
This won’t compromise all 3rd party business. B/d must also in some way be affecting the transaction.
=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=–=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-= Jon Giblin, Lehman Brothers, responsible for electronic marketing efforts and US soft dollar efforts Lehman has had conversations with other clients about unbundling.
This is a market structure conversation. Look at what happened in Europe: split between execution & research is disclosed.
This has shrunk the # of brokerage parties in the UK, subject to best execution.
Much more flow in a smaller number of execution providers. SEC is tackling the disclosure issue.
Our def’n:
1) Big-U unbundling, or economic unbundling, e.g., Fidelity Lehman deal.
Fidelity is paying for research out of their profits.
2) Little-u unbundling: See-through of allocation of execution costs and research costs.
Most clients choose little-u. Buy-side often has to trade illiquid securities with 2nd-tier, 3rd-tier providers. Transparency is key.
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David Quinlan, President, Eze Castle Software, and investor in Code Red He has 300 clients Industry issues: – pending 28e regulatory changes – unbundling – disclosure – increased transparency – regulatory audits – lack of automation for a very crucial aspect of investment management.
They specialize in commission management tools.
Classical process is email & Excel driven—very informal, proprietary, and insecure Research Content providers–>Research Management Software–>Commission Optimizer< –>Order Management System They want to provide a scoring/quantitative tool for this whole order process.
This process can and should be automated, and it’s happening today.
Q&A
There are complaints that investigators are spending more energy pursuing money spent on indies as opposed to buy-side, because indies provide a trackable expense item.
Giblin: Clients sometimes determine execution level for a trade (DMA, algorithmic, etc.), and then tack on a cost for research.
There will never be one-size-fits-all pricing for the industry.
Audience question: How would commission-sharing arranagements take off here as they have in UK? 2 problems with that analogy: – how do you define provider of research? – NYSE ruling: broker cannot share a commission with a non-broker-dealer.
There will be liberalization. Sununu and Schumer have both been supportive of indie reseach.
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9:50am-10:40am Panel 2: Proving Performance Buyside executives, research performance measurement experts, and research providers discuss how to most effectively value analysts’ performance quantitatively and qualitatively John Eade (Moderator), Argus Research Evan Cooper, Institutional Investor Magazine Mark Fichtel, Lehman Brothers Georgette Jasen, Wall Street Journal
=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=–=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=Georgette Jasen, Wall Street Journal Has run poll for 14 yrs.
Data is entirely from Thomson. Strictly quant—we rank top 5 analysts in each industry group, using Dow Jones’ industry classification approach & FTSE.
Industry classifications sometimes controversial.
Give equal credit to buy & sell recommendations.
Extensive verification period.
We post data on Statcheck website.
Verify data based on interviews with analysts.
Biggest change is we no longer include earnings estimates, because we could not be internally consistent.
Analysts and companies were not measuring earnings in the same way.
WSJ now exclusively reports GAAP earnings unless specified otherwise.
Industry groups do change periodically.
We moved to simple buy/hold/sell form of analyzing recs.
A hold is a neutral rating.
To track data, they use market close from day prior to recommendation, because they can verify the price. WSJ often gets questions about this issue.
Most recommendations are made early in the day, so that’s reasonable.
=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=–=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=Evan Cooper, Institutional Investor Magazine ‘a beauty contest’. A measure of what clients think product is worth to them. Published in Dec. issue.
We start early in year.
Ask buy-side what results were.
Last year had 71 categories.
3400 PMs at 700 institutions get the survey.
Had 690 voters. In 49/71 categories we had enough votes to pick winners.
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Mark Fichtel, Lehman Brothers Independent consultant in Research Settlement.
I follow the three Rs: Reading, Riting, Rithmetic Pay a lot of attention to: – ‘rithmetic (how well recommendations perform).
He uses larry bloston at Columbia Biz School and Rajiv Jagarnathan at Kellogg to analyze this. They strictly measure alpha – reponsiveness.
As of 1/06, he told firms he expected them to issue reports within 48 hrs. of a relevant event.
I was surprised by long delays between times when co. reported earnings and when indie would issue report.
Many indies still don’t understand that vast bulk of investors have been pavlovianized to expect a report within 24 hrs. of an event, so that their clients have some idea of what that event means. – readability. reports’ written quality He represents the non-professional clients of the brokers.
He uses 37 IRPs, monitors 59 firms, who cover 1350 stocks.
He goes stock by stock.
Overall annualized alpha is about 6% for all these firms—from -42% to +80%.
His system is only about 2 years old.
I am constantly amazed at the variety of ways in which people measure earnings.
Also amazed that an analyst can say earnings will be $0.15 below street and still call the stock a buy.
We decided we wanted to get the influence of the market out, and that’s why we switched to an alpha.
He draws data only from Jaywalk.
Settlement funds only cover research.
All other expenses (e.g., Mark’s salary and technology) are paid for by the firms outside of the settlement.
So his methodology belongs to Lehman.
He won’t be publishing it.
To track data, they use market close from day prior to recommendation, because they can verify the price.
They measure cumulative daily alpha.
Q&A Teten asked how to measure comparative research performance of expert network providers.
Evan Cooper: with votes Mark Fichtel: there’s no way Georgette Jasen: there’s no way For private clients, 20-50% of research used is from indies.
Almost all of research that’s being used is used by broker and then conveyed orally to client.
Very important to reach brokers and capture their enthusiasm and loyalty.
This has been major source of revenues to some indies, but they need to be event-responsive.
If they fail to do so, they’ll see $100M of revenues /year disappear Georgette: Bulge-bracket firms get more awards because of the # analysts they have.
Evan: 3/4 of buy-side uses indie research Mark: performance drives performance of indie research. Indie firms don’t take enough time to explain the reason for their recommendations.
Clarity of ratings is very important. 10:40am-11:30am Panel 3: The Future of Institutional Investment Research Research firms discuss the seismic changes facing the institutional investment research industry Lisa Shalett (Moderator), Sanford Bernstein Stanton Green, Vista Research Rich Leggett, CFRA David Weild, The NRE
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Lisa Shalett (Moderator), Sanford Bernstein Enough with the ‘re’s’—repackaging, regurgitation, recycling, etc. “Put the search back in re-search” We get paid based on value-added We should be an advisory
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Rich Leggett, CFRA We try to put yourself in client shoes, part of the mosaic of data they have.
Become part of the fabric of client’s thought process.
They want to be go-to firm for hard-core number crunching.
Overall pie is shrinking.
And it’s not overly clear that it’s favored the independents.
Research world is overcrowded. Draws analogy to excess of vendors in the tech bubble.
Lots of noise out there. Each client is very different: communication preferences, etc. More people will take research to low-cost regions.
Constant churn in the client base—who’s changing sectors, who’s changing firms.
Buy side is going thru a professionalization of procurement function.
Traditional sell-side changing rapidly.
We should be a consultant/service partner, not a publisher. ‘a trusted partner to our clients’.
We need to mobilize for success in a meritocracy.
4 buckets: – risk mitigation/save money – opportunity creation-help them make money – saving time – saving money You must rise above the noise.
Get research to right people at right time.
You must be: Differentiated, high-quality, original.
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David Weild, The NRE Decimalization has sucked life out of the low end of the market.
We’re working on a white paper on distribution of research of indies vs. i-banks.
There’s about 10x more investment banking reports than there are independent reports (as measured by # reports). At low end of market, there’s not much research at all, because economics don’t work.
This is a challenge to the goose that lay the golden egg, of capitalism.
We address this challenge by: Research community enters into contract with NRE, not with investment banks or with companies. We mitigate conflicts for a living.
There’s an arms race going on, on the buy side.
They’re very interested in the quant firms.
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Stanton Green, Vista Research Caveat: our comments are focused on institutional not retail research.
Clients will tell you what they want.
There’s still much more $ in long-only than hedge funds.
If hedge funds have $1Tr, that’s only 2x what Fidelity does.
Our product has the feel and look of a proprietary product.
When we started our firm, we talked with 150-200 funds.
All of our clients want, #1, better industry information.
That historically has come from an analyst who does really deep industry digging.
There’s a lot of talk about sell-side research going away, but I don’t believe it.
He was recently on a panel in which overwhelming majority of CIOs of long-only shops all said that they wanted to spend more $ on building their in-house research capability.
SIA poll: 3rd largest spend of buy-side is on compliance.
From day one, we’ve built a culture in our firm around compliance.
It’s part of corporatization of hedge fund world. We’re a service-oriented organization.
In a recent Greenwich Associates poll, we have 95% customer loyalty.
We’re a partner, knowing what they want.
We don’t divulge our client base, what we know, what we hear. Certainly a partner with regards to compliance.
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Audience Q&A Q: How are you dealing with problem of issuer retaliation against analyst? Rich: as policy, we try to talk 3 times with a company before issuing a report.
Before we publish anything, it goes thru a strict vetting process.
