The U.K.'s financial watchdog wants to exempt bond and small-company research from European trading rules.
The Financial Conduct Authority on Wednesday published proposals related to its requirements under the Markets in Financial Instruments Directive II — known as MiFID II. Among the European trading rules, which came into force in January 2018, was a requirement to split out payments for investment research from execution costs.
The FCA now wants to walk back some of the changes implemented under MiFID II.
The proposed exemptions cover listed or unlisted small and midsize enterprise companies with a market capitalization below £200 million ($277 million) and research related to fixed income, currencies and commodities securities, the FCA said in a consultation paper.
In its supervisory work, the FCA found that equity research budgets for buy-side firms have fallen by about 20% to 30% following the enforcement of MiFID II, with money managers largely absorbing the costs of research rather than passing them on to their clients.
While its analysis has not found that unbundling requirements has significantly affected coverage of smaller U.K. public companies, the coverage level was already low, with an average of 1.6 analysts per company with a market cap of less than £1 billion.
However, that figure masks another issue: That a significant proportion of companies at the smaller end of the market-cap spectrum do not have any coverage — 79% of public companies with a market cap of less than £250 million have no or only single analyst coverage, the FCA said. That "may be insufficient to provide a fully informed view for investors," it said.
As well as suggesting an exemption for SME coverage, the FCA proposed a market-led initiative to create a research pool, with SME research commissioned using funds contributed to this pool. "Industry participants have indicated some willingness for such an initiative but were uncertain who would take forward such a proposal," the FCA said.
Regarding fixed income, currencies and commodities — or FICC — the FCA wants to rebundle research since FICC transactions "are typically not paid for by an agency commission to the broker, but instead the broker earns its revenues" from the bid/ask spread. That means rebundling FICC research with execution payments "does not create the same opacity risks between transaction fees and research costs that arise for equity research," the FCA's consultation paper said.
The proposals are part of potential reforms to capital markets by the FCA alongside Her Majesty's Treasury. Such reforms aim to ensure the U.K.'s regulatory regime is adapted to the structures of U.K. markets and maintains the highest regulatory standards.
The proposals echo in part exemptions put in place by the European Union last year to roll back the unbundling of research and execution costs for firms with a market cap of less than €1 billion ($1.2 billion).
The FCA wants industry comments on its proposals by June 23. Any changes will be published in the second half of the year.
