Investment Research Review

Following the announcement of a review of the investment research market in UK led by Mrs. Rachel Kent in March 2023 (please see EventID #20141 in this context), the HM Treasury has published a first follow-up report in this context. The report was drawn up by Mrs. Kent herself and presents the key findings as to
– the current level, type, and quality of research offered in UK;
– the perception of the current status quo;
– how the UK compares to other countries as far as the performance of investment research is concerned;
– the demand of investors for such research;
– how levels of research relate to the attractiveness of the UK financial market and issuers willingness to raise capital in UK.
Based on these findings, Mrs. Kent also presents some recommendations on areas and issues that could be improved to facilitate more and better investment research in UK and so to attract more issuers, both small and large, to the UK financial market. The key findings and basic recommendations are briefly described below.
#### Key findings from the review
(1) The current level, type, and quality of research offered in UK and the perception of the status quo:
The investment research provided on firms listed or seeking to be listed on UK public markets largely varies based on the size of the company. Larger cap companies generally receive sufficient and high-quality analyst coverage, although there are some concerns about the lack of expertise among junior analysts. On the other hand, smaller cap companies have less extensive coverage, which is a common trend worldwide. When it comes to research on new or novel technology businesses, overall, the availability of investment research in the UK was found to be sufficient, not hindering the attractiveness of the UK public markets for issuers in these sectors.
Regarding IPOs (Initial Public Offerings), the provision of research is and was considered important by all interviewed stakeholders. But although there were reforms in 2018 aimed at encouraging more independent research on IPOs, opinions as to their (positive) contribution to the research market largely varied.
(2) How the UK compares to other countries as far as the performance of investment research is concerned:
The UK’s investment research market compares well with other global financial services centers, particularly for larger cap stocks, where it is in a leading position among European counterparts. Investment research in UK typically focuses on publicly tradeable securities and analyst coverage in the UK, similar to other financial centers, heavily prioritizes larger cap companies, while smaller cap companies receive limited attention due to economic viability and lack of interest.
Generally speaking, research is well funded and robust in sectors like life sciences and technology, but the number of analysts specializing in specific sectors depends on the number of companies listed in an industry. There is a perception that the UK’s research dominance has declined in recent years compared to the US, which boasts a more extensive and well-funded research market. The implementation of the MiFID II unbundling reforms has further impacted research budgets and potentially led to a reduction in experienced sell-side analysts, having significant effects on research quality.
(3) The demand of investors for such research:
As of the information available up to September 2021, the demand for investment research remains „robust“, particularly among institutional asset managers and asset owners. However, over the past decade or so, there has been a steady decline in interest in the UK equity markets and thus in related research. According to the findings, issuer-sponsored research and external research are quite significant for asset managers, particularly for the coverage of smaller cap companies, which is why they pledge for measures to encourage these types of research.
#### Key recommendations
(1) Establishing a research platform: To enhance research coverage of smaller cap companies, Mrs. Kent proposes the establishment of a research platform, encouraging and facilitating the promotion and sourcing of research. The platform aims to make the UK public equity markets more attractive, increase interest in smaller cap companies, and support financing for innovative businesses.
(2) Creating payment optionality: The MiFID II unbundling requirements have had both positive and adverse effects on research provision. The decline in research coverage actually started before MiFID II, although there are concerns that it has reduced the availability of speculative and innovative research even further. To address these challenges, the Mrs. Kent recommends providing additional optionality for payment for research to allow asset managers to pay on a bundled basis.
(3) Revisiting research rules: As research has shown, many retail investors are in need of research to make informed investment decisions. Therefore, the current rules on research provision should be revisited to review those regulations that impede access. In same context, Mrs. Kent also notes that it may be helpful to have a dedicated „research regulation“, rather than scatters rules here and there which make the entire research issue complex and hard to navigate.
(4) Involving Academic Institutions and IPO-Related Reforms:
The expertise academic institutions can support research development, especially in innovative sectors. Therefore, Mrs. Kent suggests exploring mechanisms to strengthen collaboration between academia and the capital market. Regarding IPO-related reforms, Mrs. Kent recommends considering changes to IPO-related rules to address competitive disadvantages and provide equal access to information for all investors.