Analysts at Numis have predicted that asset management companies could face at least a 5 per cent hit on profits from proposed European regulation on research.
The European Securities and Markets Association (Esma) is currently consulting on a proposal in the Markets in Financial Instruments Directive II (Mifid II) that would ban asset managers from using dealing commission to pay for research.
Analysts at broker firm Numis Securities have estimated the impact on profits among listed asset managers in the UK to be between 1 per cent and 8 per cent, with an average impact of 5 per cent.
Numis analyst David McCann said: “While this is clearly not an insignificant issue for the sector, it is also not an issue that would appear to structurally challenge the general attractions [of the sector].”
The research stands in stark contrast to some more pessimistic estimates of the potential costs.
Mr McCann said he had seen predictions for the loss of profit ranging from 20 per cent to 50 per cent, but added that even Numis’s 5 per cent estimate could be too high.
Numis said that, based on its interpretation of the Esma consultation paper, it has assumed the ban will apply only to equity funds, not fixed income or multi-asset funds.
It estimated each firm’s current research spend by multiplying equity assets under management by the funds’ portfolio turnover rates and then multiplying that figure by an estimated cost of research at 10 basis points.
The analysts then predicted that if asset managers were forced to take research in-house they would cut research spend by an average of 10 per cent, as well as force staff to bear some of the brunt by reducing salaries and bonuses.
Given the focus on equity research, those asset managers most reliant on equities are expected to take the biggest hit, with Polar Capital and Henderson Global Investors both forecast to take an 8 per cent hit to profits.
In contrast, Numis suggests Ashmore will only take a 1 per cent hit, in part because of its reliance on fixed income products.
Other assumptions built into the analysis include the belief that asset managers will also apply these research principles to money managed outside of the European Union, even though this money would not fall under the jurisdiction of Mifid II.
Mr McCann also said the estimates assumed that 100 per cent of turnover was done at standard research-paying rates, whereas “in reality many of these companies today already have research budgets and revert to execution-only rates above certain (undisclosed) levels”.
So Numis has suggested that the final impact to asset managers may end up being even lower.
While he said a 5 per cent hit to profits was not a “major problem”, Mr McCann said it added to a list of headwinds for the sector, which included “declining fee margins, sustainability of profit margins, low underlying organic growth, sector valuations and valuation of some risk assets”.
However, the analysis will provide some relief to asset managers, following warnings that the Esma proposals could force smaller asset managers out of business due to sharply increased costs.
Why is Numis’s cost estimate so low?
Any estimates of the impact by this Esma proposal will have to be vague and based on a large number of assumptions, and Numis is very upfront about that.
But it claims some of the assumptions being used for other estimates, which have led to alarming reports of asset managers’ profits halving, are just not realistic.
Firstly, Numis says some estimates have ignored the idea that firms would take action to mitigate increased costs, through reducing overall research spend and cutting staff salaries etc.
Numis also claims some estimates have used the average turnover rate of equity indices in their cost calculations, rather than the turnover rates for asset manager funds themselves. With the proliferation of high-frequency traders, stock exchange turnover rates will of course be higher.
The broker says many rival estimates are also misreading the cost of research, mainly through misinterpreting the costs investment banks incur in producing research currently and then applying those estimates to asset managers.
Finally, Numis’s results may be skewed, given they only refer to the companies the broker analyses, which are currently more profitable than the industry as a whole – Numis says the average profit margin on its companies is more than 40 per cent, whereas it is 25 per cent to 30 per cent for the industry. Numis says companies with a higher profit margin will be hurt less by these increased costs.
The companies analysed by Numis are Aberdeen, Ashmore, Henderson, Jupiter, Liontrust, Polar Capital, Rathbones, Schroders (above), Man Group and River and Mercantile.
