Summary: Six months into MiFID II and the impact of the new inducement and investment research rules on the market have been significant, particularly in the context of corporate access. However, many legal and practical uncertainties remain, which has caused disparate market practices to develop on how corporate access is provided and received.
The MiFID II inducement rules, on their face, prohibit investment management firms (and firms providing independent advice) from accepting any non-monetary benefit unless that benefit can be categorised as either an “acceptable minor non-monetary benefit” or investment research. If it is investment research, then payment for it must be made in one of two prescribed ways, with the vast majority of firms opting to pay for it out of their own pocket.
Further, MiFID II requires firms providing execution services to “unbundle” their execution services from other benefits or services provided and make those benefits or services subject to a separately identifiable charge. As such, the treatment of corporate access under MiFID II has been particularly problematic.
Historically, the market viewed corporate access as falling within the ambit of investment research, which meant it could be paid for out of dealing commission. However, in a November 2012 paper, the Financial Conduct Authority (FCA) caused widespread consternation by suggesting that corporate access would seldom amount to research.
This issue at least appears to have been made clearer under MiFID II - the FCA Handbook now explicitly states that corporate access services should not be regarded as research and European Securities and Markets Authority (ESMA) guidance suggests the same.
The real question, however, then becomes, how can investment managers, in particular those at large financial institutions, obtain corporate access under MiFID II?
The prohibition on what investment managers can receive appears to be stated in categorical terms. Accordingly, on a strict reading of the rules, corporate access must fall within the concept of an acceptable minor non-monetary benefit in order to be capable of receipt, because it is not research. On another reading, however, if research can be paid for out of an investment manager’s own resources, why can corporate access not be treated in the same way? As long as the manner in which it is priced by providers and acquired by investment managers does not give rise to conflicts and inducements risks, then there is no basis in policy or logic for corporate access to be treated differently. It can be regarded as a specific commercial service that can be paid for by an investment manager out of its own resources.
This latter approach seems to be the position that ESMA has adopted in its Level 3 guidance, but not all in the industry are clear on this point. Even if they are, the question about how providers need to price their corporate access services to make investment managers comfortable that they can receive them without an inducement risk arising remains well and truly open. Put simply, firms on both the buy and sell side are taking different approaches, driven by their risk appetite and internal business models for research production and consumption. This has led to a mismatch of perspectives.
The other approach to receiving corporate access is to argue that it is a minor non-monetary benefit. This may be more straightforward where the corporate access is part of a capital raising “road show” and is publicly and freely available to analysts. This is because there is a specific category of minor non-monetary benefit for “issuer sponsored research”, which ESMA has broadened to cover corporate access road shows in analogous situations. However, the position of issuer sponsored corporate access, when unconnected to a specific capital raising, is less clear. Although, it would seem arguable that it should be permitted as a minor non-monetary benefit, particularly where the broker provider is not providing execution services, and so the inducement problem effectively falls away – though the buy side may not always agree.
Even if corporate access is not issuer sponsored, it could still be regarded as a minor non-monetary benefit as long as it does not involve the allocation of valuable resources by the provider and its value to the recipient is such that it could not influence the recipient’s behaviour. Assessing these issues in practice is clearly fraught with difficulty. For example, how can an investment manager get comfortable that the provider of such corporate access has not allocated valuable resources to that service?
Ultimately, it is for an investment manager to determine whether it can accept the corporate access benefit or not. In light of this, and given the open interpretive uncertainties and practical problems outlined above, many asset managers have been forced to take a conservative view on whether they are prepared to receive corporate access from brokers and how much they should pay for it. As a result, they often do not agree with the sell side’s assessments of these matters. Many have also opted to avoid the uncertainty altogether and arrange their corporate access directly with the issuers themselves.
MiFID II has changed the market for corporate access in drastic ways. It is unlikely that many of these changes were intended or even contemplated. Moreover, the impact of these changes on capital markets activity itself remains to be seen. What is more certain is that the FCA’s long standing interest in this area makes this a topic ripe for further regulatory attention.
Originally published by ThomsonReuters © ThomsonReuters.