On 1 January 2006, the FSA introduced rules on the use of dealing commission. This new regime sought to achieve the following outcomes though the FSA Handbook and industry-led disclosure codes:
- Investment managers’ use of dealing commission should be limited to the purchase of ‘execution’ and ‘research’.
- Investment managers should give their clients better information about the respective costs of execution and research and the overall expenditure on these services.
- Investment managers should be encouraged to seek, and brokers to provide, clear payment mechanisms that enable individual services to be purchased separately.
- To promote a level playing-field in the production of research.
The FSA committed itself to undertaking a post-implementation review to test whether the outcomes were being achieved. It commissioned Oxera to develop a performance measurement framework to evaluate whether the new regime had achieved its aims and the baseline was measured in 2006. The measurement was repeated in 2008 and the FSA has now published Oxera’s report entitled The impact of the new regime for use of dealing commission: post implementation review (the Report). The Report details the analysis and conclusions of these performance measures.
The key findings in the Report are:
- Use of Commission Sharing Arrangements (CSAs). Following the introduction of the new regime, it was expected that CSAs, would be the principal means through which non-execution goods and services would be purchased. The survey showed an increase in the number of investment managers with CSAs and in the average number of third-party research providers paid via investment managers via CSAs.
- Expenditure of non-execution goods and services. The new rules stipulate that only research and execution-related goods and services can be purchased with commissions. The survey found that such expenditure out of commissions was now overwhelmingly for research rather than for execution-related services.
- Commission rates and trading patterns. The unbundling of execution and research was also expected to result in greater transparency of research pricing. The survey found that the commission rates charged by brokerage firms have fallen since the new regime was introduced, for both core/bundled brokerage and execution-only trading.
- Impact on the structures of the market for research services. The new regime enabled investment managers to separate their choice of execution venue from their choice of where to purchase research. The survey found that the weighted average of trades going to the top 20 brokers had not changed significantly. Survey participants indicated that changes have arisen in the market structures for a variety of reasons not directly linked to the new rules.
- Trends in market liquidity and research quality/coverage. With the introduction of the new regime there was some concern that the quality of trade execution would be adversely affected, while competition for research would be facilitated. The survey found that a significant proportion of respondents indicated that liquidity was unchanged over the period, although some believed it had worsened.
- Management fees. There was a decline in average fund management fees for actively managed funds between 2006 and 2007, while for passively managed funds there was a slight increase over the same period. However, the changes were not significant and there is no evidence that this had been related to the introduction of the new regime.
- Disclosure and pension funds. The survey found that the most important factors considered by funds when appointing managers were the manager’s style, expertise, reputation and past performance.
- Retail funds. The survey showed that few disclosures were made by investment managers before mid 2008, this was due to participants awaiting industry guidance. Any disclosure made before 2008 tended to be based on the Investment Management Association/National Association of Pension Funds code.