Fund Managers Must Be Clearer on Research Charges: ESMA

Fund managers in the European Union must disclose more information about how they pass on the costs of investment research to consumers, as part of an overhaul of investor protection rules.

Clients should be “informed about the budgeted amount for research and the amount of the expected research charge,” the European Securities and Markets Authority said in technical guidance provided to the European Commission today. A firm may only increase its research budget “with the client’s written agreement,” the Paris-based regulator said.

“ESMA’s proposed approach would raise standards and reduce conflicts of interest across Europe and ensure that payments for research are clearly distinguished from payments for trading,” Daniel Godfrey, head of the Investment Management Association, said in an e-mailed statement.

The 28-nation EU’s top markets regulator made public more than 1,000 pages of proposed rules that cover everything from high-frequency trading curbs to transparency requirements for bond markets and position limits for commodity derivatives, with the aim of boosting confidence in the financial system.

“These requirements are aimed at ensuring that investment firms remain accountable to their clients,” ESMA said.

Research is included in trading commissions paid to investment banks by fund managers, with the cost passed on to the customer. The U.K.’s Financial Conduct Authority regulator has estimated that broker commissions totaled about 3 billion pounds ($4.7 billion) in 2012, with about half coming from research fees.

‘Physical Separation’

“On the research side, what we have tried to do here is to disentangle let’s say the trading, the execution of the trading, from the research,” ESMA Chair Steven Maijoor said on a conference call with reporters. “In many situations,” what happens “is that the costs of that research is covered from the commission received from the execution of the trades,” so that “trading is very much connected to the research,” he said.

The rules “don’t go as far as research must be paid for directly from the portfolio manager,” Maijoor said. Research can be paid for by the client so long as he or she has a clear understanding of the process, he said.

ESMA also said firms should install “a physical separation” between analysts who produce investment research and people “whose responsibilities or business interests may conflict” with consumers of the research.

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