On January 3rd, MiFID II, the most comprehensive regulatory intervention with the financial industry yet, took effect. MiFID II is designed to make financial markets more efficient, resilient and transparent for the sake of increased investor protection. One of the implications, which will result in major industry changes, is the requirement for investment research to be unbundled from execution commissions. Banks and other broker-dealers that in the past have provided research to their clients as a complimentary service, indirectly financed through execution commissions, now must unbundle these operations. Viewing these firms from a business model perspective, investment research divisions now must be structured as a direct profit center. In this article, we discuss concrete implications of this change and turn the focus towards the future of the investment research product.
Up until 2018, the investment research market was characterized by two central types of players: those providing complimentary research as part of the execution deal and pure research providers charging customers for research explicitly. Predicting implications of the new regulatory requirements for the two is hard. For example, one can imagine independent suppliers taking a larger portion of the market, as they are already established as insight-sellers – and the cost for customers to change to one of these providers is lowered. On the other hand, if the total buy-side research budget remains fixed or decreases, then customers that were relying on both paid and free research may adjust their purchases to include the used-to-be-complimentary products – lowering their dependency on pure providers.
An effect of MiFID II and the research unbundling initiative is the free market mechanisms now affecting all players equally – inducing some inevitable changes in the playing field. As any good capitalist will tell you, competition is the one driver behind innovation and industrialization, leading to increased benefits for customers. Those who are unable to advance will fall behind and potentially go out of business: research should measurably increase customer returns or they will stop buying it. Another possible effect we may see in this restructuring of the market is that after an initial phase, where some sort of equilibrium is reached, entry barriers for new players are lowered: you only have to compete against your peers, where no one is able to give away for free what you are trying to sell.
A need for innovation
We will leave the discussion of buy-side preferences to the research providers. There is, however, no doubt that portfolio managers will have to assess the value of research and insights. In this category falls not only the reports obtainable from online portals, but really any product where knowledge is transferred from one part to the other; be it analyst meetings, phone calls, conferences etc.
Research providers not only have to differentiate in terms of the insights they deliver. Yes, understanding the scarcity and decaying value of ideas and insight, and the changing nature of what buy-side finds useful will, directly or indirectly, imply a continuous evaluation of their offerings. But they must also address their uniqueness and competitive abilities in other aspects of their business, such as communication, marketing and customer acquisition and retention. Not even the best product sells itself, so taking a position as a visible brand and making the customer experience as easy and smooth as possible may prove to be worth the effort.
Increased customer awareness, and an ongoing effort to differentiate yourself in the market, are attributes that especially characterizes free market mechanisms. Historically, these attributes have driven technological advancements and product innovation, demanding new business- and operating models. For investment research providers, now is the time to accelerate development of highly differentiated products to stand out in the mass, while driving internal change to be able to save cost and compete on price. Those who can deliver on these promises, will be the ones with a strong brand and market footprint in the coming years. The threat of newcomers that challenge the traditional business model, and can offer something different, is increasing. Innovative companies may indeed see the new regulations as an attractive business opportunity.
The future investment research product
Today, most distributable investment research is carried out using legacy technology and spreadsheets, presented either as presentations, reports or on a web-portal. These are usually static representations of continuously changing underlying information, updated at fixed intervals. Payment is based on subscriptions; customers either have access to all research or predefined subsets. Subscriptions may also involve other services, such as analyst-access.
So, what does the future look like? And what products will be out there? Upon realization that all customer needs are unique and that no one really use everything involved in a predefined bundle to manage their portfolios, it is in the suppliers’ greatest interest to use this opportunity to get a competitive advantage by offering research that buy-side can bundle the way they want. In fact, we believe that self-bundling of research products, where customers pay for what they want and nothing more, is going to be the industry standard in the coming years. We will see online marketplaces where anyone can log on and subscribe to research from specific categories and industries, from analysts they prefer, or single nuggets of information like graphs, tables or even datasets. These research products will be interactive and customizable, easily embeddable in customer-specific dashboards, on web-sites, in apps, wherever needed, online and offline, available to users with access. Everything will be alive and updated real-time for the consideration of the customer.
As a side-note, in the connected world we live in, where decisions need be taken fast, any information should, and eventually will, arrive upon existence. Data-powered organizations are well on their way to find themselves in a situation where decision makers have all necessary data available an instant after it is generated. A similar situation – though with a delayed adoption due to technicalities – will be the case for the investment research industry. Nonetheless, change is coming, and we will soon enough see research products that we believe few analysts ever has imagined.
Additionally, just as any digital marketer would agree on, tracking how customers use their products is a necessity. Facebook tracks your likes, Google knows what you are searching for and Amazon know how long time you spent looking at that customer review of the book you did not buy. With digital assets, this is possible. With research products, this still remains an uncovered potential. Getting to know the customer from the inside will allow for faster and more focused iterations of research products than perhaps anything else. Just as domain expertise is the most valuable input for the specific research delivery, customer insight may show to be just as important when determining what and how to deliver.
The necessary ingredients
Product-wise, this future is only possible with technological advancements that are specifically aimed towards creating the most rich and trustworthy research and data products to date. To accommodate the requirements for investment research providers, one would need a highly integrated system for both data enhancement (cleaning, blending, error corrections, and so on), advanced data analytics, and the necessary means to satisfy the required domain specificity. Such an architecture must output research products that are able to stay connected to their origin wherever distributed. Few research providers have the ability to develop such a system themselves, and those who do are, willingly or unwillingly, taking on additional operational risks, as any system of this kind must be maintained and continuously developed.
For any company, such a transition may seem costly and hard, if not impossible. Where to start? What talent is needed? And who provides the technology to get us there? At Quantifio, these are the kind of questions we strive to answer every day, and where our team has expert knowledge. We know the pain analysts go through on a weekly basis, and we know that most analysts spend a great portion of their time maintaining models, enhancing data and wrapping their research into appealing products that visually emphasizes the obtained insights. In this context, what we have described may seem like nothing but a utopia.
This is where we get back to the concept of a profit center. A profit center needs to focus on much more than the products it produces. Resources must be dedicated towards making operations smooth and effective. We personally like the term industrializing, as it forces the mind to focus on streamlining processes and waste reduction. To scale research and make the product-to-market time as short as possible, one must rethink the entire operating model of research production, and focus on collaboration in cross-functional teams. One must utilize the new tech-savvy workforce and build a system where everyone; analysts, domain experts, data scientists and decision makers are working closely together, with a clear division of labor to make everyone do what they are best at. By carefully redesigning the operating model, with user experience, transparency and reusability at its core, the right team can achieve so much more than the sum of its parts.