The UK’s Financial Conduct Authority (FCA) has finalised rules that could see an as-yet unknown portion of the country’s asset managers once again allocate costs for investment research to asset owners.
The rules represent an unwinding of the MiFID II ban on the bundling of charges for trade execution and research, but with certain measures to protect end investors. The UK’s Investment Research Review concluded that the MiFID II unbundling requirements have had adverse impacts on the provision of investment research in the UK, with a potentially negative impact on economic growth.
The vast majority of asset managers ended up meeting unbundling requirements by paying investment research costs from their profit and loss accounts.
Under the UK regulator’s new rules asset managers who wish to buy investment research will now be able to once again use joint payments for third-party research and execution services, provided they meet certain requirements.
The FCA said it made “significant changes” to the conditions attached to using the new payment option following feedback to its proposals from April.
“The FCA wants to make sure it is operationally efficient to use and adaptable to different types of firms, but also [to] make sure it secures an appropriate degree of protection for consumers, and there is not a return to historic poor practice in this area,” it said.
In response to the FCA’s consultation, the Pensions & Lifetime Savings Association (PLSA) had encouraged the regulator to “permit a more flexible approach to operating within the guardrails that it is proposing to introduce”.
“This would maximise the interoperability with overseas regimes and potentially increase the attractiveness of the new payment model,” it said.
The changes the regulator made include clarifying that asset managers can set budgets for investment research at “an appropriately aggregated level” rather than only at the investment strategy level.
The FCA also dropped an explicit requirement for price benchmarking, instead requiring that firms ensure research charges to clients are “reasonable”. Guidance points to benchmarking of prices paid for research services as one means of demonstrating compliance.
Adoption ‘more likely’
Mike Carrodus, chief executive officer of Substantive Research, said the FCA’s clarifications made a move from a portion of the UK market to client-funded investment research “much more likely”, with asset managers seriously considering taking up the new optionality.
Based on a survey of 35 of the largest asset managers about the FCA consultation, Substantive, a research and data spend analytics provider, found that around 50% anticipated the market would shift to operating an equal mix of client-funded and P&L-funded research within the next two years.
Substantive’s base case has been that the majority of transitions to investor-funded research budgets would happen next year for 2026 budgets.
Substantive also recently reported that research budgets rose globally for the first time since MiFID II. European budgets rose less than US budgets however, which according to the firm, explains the political push on the other side of the Atlantic for asset managers to be able to return costs back to their end investors.
Guardrails
The key requirements a UK-regulated asset manager has to meet if it wants to avail itself of the new payment option include, as summarised by the FCA:
- a written policy describing the firm’s approach to joint payments, including with respect to governance, decision-making and controls;
- an arrangement that stipulates the methodology for calculating and separately identifying the cost of research;
- an approach for the allocation across clients of the costs of research purchased through joint payments, appropriate to the investment process, product, services and clients of such firm, but ensuring its outcome is fair, such that the relative costs incurred by clients are commensurate with relative benefits received;
- periodic assessment of the value, quality, use and contribution to investment decision-making of the research purchased, and how the firm ensures that research charges to clients are reasonable against relevant comparators, to be undertaken at least annually;
- disclosure to clients on the firm’s approach to joint payments, including for instance if and how joint payments are combined with any other payment option, the most significant research services purchased, and costs incurred; and
- a budget to establish the amount needed for third-party research, reviewed and renewed at least annually, and based on expected amounts needed to purchase such research as opposed to volumes or values of transactions.
The changes to the research rules will come into force on 1 August.
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