Kepler Cheuvreux believes that Small & Mid cap research & capital raising is threatened by MiFID II

Paris, 1st August 2014

Kepler Cheuvreux believes that draft rules in ESMA’s consultation paper on MiFID II / MiFIR have serious implications for the structure of equity research and the transparency and efficiency of capital markets in Europe. Kepler Cheuvreux fears that there will be negative ramifications for future capital raising by Small & Mid cap companies which will inevitably affect economic growth and jobs in Europe. If current timetables are respected, these rules could come into force in January, 2017.

At the request of ESMA (European Securities and Markets Authority), Kepler Cheuvreux has submitted its response to ESMA’s consultation paper on MiFID II / MiFIR. The deadline for responses from stakeholders is today. Section 2.15 of the consultation paper states that ‘bespoke’ research provided to asset managers by brokers should not be considered as a ‘minor non-monetary benefit’ and therefore should not be remunerated via dealing commissions. Kepler Cheuvreux believes that the provision of research to asset managers is a ‘permissible’ service rather than a ‘benefit’. While this distinction may appear rather abstract to the layman, Kepler Cheuvreux believes that the consequence will be shrinkage of the equity research industry with a particularly negative impact on the provision of Small & Mid cap company research.

Kepler Cheuvreux argues in its response that ESMA has not sufficiently considered the case of independent agency brokers, which is typically the brokerage model in Continental Europe. In contrast to the London-based global investment banks, the independent agency brokers’ research departments do not benefit from cross-subsidies from non-equity business lines. The bulk of Small & Mid cap company research in Continental Europe is provided by independent agency brokers. Indeed, of the top 15 providers of Small & Mid cap research on Continental European companies, only four providers are global investment banks, whereas the majority are independent agency brokers (data source: StarMine / Thomson Reuters). The problem is that the cost of production of Small & Mid cap company research by independent agency brokers is largely funded by dealing commissions received in Large cap companies. ESMA’s intention is to unbundle asset managers’ remuneration of ‘bespoke’ research services from dealing commissions. In effect, ESMA would like ‘bespoke’ research services to be remunerated either from the asset manager’s own funds or from the underlying client’s annual management charge. In the view of many stakeholders, most of the value provided by brokers to asset managers is precisely from these ‘bespoke’ services: phone calls or meetings with equity analysts, bespoke research reports, analytical models, investor field trips etc. In common with other stakeholders, Kepler Cheuvreux believes that the unbundling of research from dealing commissions will shrink the envelope available to pay for equity research which will therefore have a negative effect on the amount of equity research available in the future.

Kepler Cheuvreux’s response to ESMA contains alternative practical proposals on how to increase the transparency of the remuneration of equity research by asset managers.

To sum up, Kepler Cheuvreux’s conviction is that if the overall Research envelope falls, there are inevitable negative consequences for Small & Mid cap research coverage from independent Continental European agency brokers. The knock-on effects on price formation and European equity issuance from Small & Mid-caps could be dire. Which CEO would want to list their company in Europe if he / she would have minimal research coverage for their company ? Less capital raising in Europe has obvious implications for economic growth, efficiency and jobs.

About Kepler Cheuvreux

Kepler Cheuvreux is a leading independent European financial services company specialised in advisory services and intermediation. The company has four business lines: Equities, Debt & Derivatives, Investment Solutions and Corporate Finance. Headquartered in Paris, the group employs around 500 staff. This multi-local company is also present in Amsterdam, Boston, Frankfurt, Geneva, London, Madrid, Milan, New York, Paris, San Francisco, Stockholm, Vienna and Zurich.

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