Fund managers and research houses - a cold war thaw?

Between financial planners and fund managers stand research houses vetting products as they come to market, often to the chagrin of fund managers who have come to rely on – while resenting – the intrusion.

Yet, as Jason Spits asks, is this relationship still one of cold mutual respect, or have managers and researchers moved closer in meeting mutual goals?

Related: Rate the Raters 2013

Ask an overseas-based fund manager offering investment products into Australia if they feel research houses here have some serious market clout and it is likely most would agree. 

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New overseas entrants are often surprised by the depth and rigour local research houses bring to their work in assessing funds, as well as the necessity of having products rated before releasing them to the financial planners. 

This gate-keeping role continues to raise eyebrows with fund managers, calling into question the performance of commercial operators who stand in the market and assess them. 

However, is the relationship between managers and researchers this simple? Is there a move underway from confrontation to collaboration? Well, it depends on who you speak to. 

Conversations with Rate the Raters survey participants show that managers range in their opinions from seeing researchers as merely gate-keeping functionaries through to aligned business partners. (Similar views are held by the researchers themselves). 

When given the opportunity to discuss these matters with Money Management, only a few managers were happy to do so and have their comments attributed, with the rest citing concerns about jeopardising their relationship with a research house.

As a result, those managers have been quoted using pseudonyms, demonstrating that if a shift has taken place then not all are part of it. 

“We have not been led to see research houses as partners; rather we see ourselves as being at their behest in how they assess us. At the same time we hope they bring an understanding of what we do and the reasons why we do it,” Manager A stated. 

This was echoed by another manager who stated that the shift in relationship was mainly due to familiarity with how the manager operated. 

“Research houses still maintain a gate-keeper role for us and while we now have better relationships with them, in the main that is probably a function of time and greater understanding of each other. 

“We have benefitted from some feedback on new products as part of the review mechanism, which is an improvement on the past where managers received ratings along the lines of pass or fail,” Manager B stated. 

Hyperion Asset Management managing director Tim Samway said he had also seen a shift in the ratings process towards a deeper examination of a fund manager’s offering and underlying business. 

“Parts of research have changed, with research houses having a more evolved business model – which means less box ticking than 10 years ago and more examination of qualitative issues such as sustainability and capability of a manager. I think this has made research houses more accountable for their decisions and their decision-making process,” Samway said. 

Principal Global Investors head of third party sales, Giles Gunesekera, said that both the presence of research houses and their methods have shifted, increasing the quality and sophistication of the managed funds sector. 

“From our perspective, we see the relationships as being more collaborative as we both have a greater understanding of each other’s aims and processes as well as ongoing issues which are important for each business,” Gunesekera said. 

“If we cannot get a rating, that is a business risk for us and a lost opportunity until the researcher comes round to rate the sector again. From their point of view they would probably prefer not to be constantly rotating managers out of their approved lists or model portfolios. 

“At the same time, having a tight ratings market has been a contributor to the level of sophistication of the Australian market, with managers from the UK and US commenting to us that the research process here is at a higher level than any other country. This then is a useful process for a fund manager to go through in getting products to market.” 

PortfolioConstruction Forum publisher Graham Rich believes that fund managers may need to take a wider view of the work of research houses and see them for what they do at the planner level. 

“I can understand why managers have a perspective on the control research houses have in the market since the role is materially different than in any other market, but it is probably inappropriate to see them as gatekeepers,” Rich said. 

“This role is being filled by licensees who make the final decisions as to what their planners and clients see and invest in and who use research houses to provide information, since they do not have the resources to do what research houses do.” 

Rich claims that if research houses ever held a gatekeeper role, it was because licensees accepted research house ratings without question.

However, since the global financial crisis and the introduction of Regulatory Guide 79, licensees are more responsible for what products they use and are looking back to research houses for advice. 

“It is at this juncture that we are likely to see a more collaborative approach from research houses towards licensees as well as towards fund managers,” Rich said. 

“The research houses that are the best at collaborating with licensees and meeting the needs of their planners and clients will be the best at engaging with fund managers in bringing and rating funds to suit. Fund managers need to move from seeing research houses as a barrier, towards working with them to enhance their offering.”  

Interestingly fund managers – as commercial entities themselves – do not begrudge research houses the right to charge some form of fee or payment, though they do question how they are charged. 

“We pay the fees without expectation because we see the need to have a rating as a cost of doing business in this market, and to get to market, but we don’t get off easy from any of them. 

“Some charge fees, or licensing costs or expect sponsorship at events, so we end up paying each of them to an extent,” Manager C said. 

And despite the research houses publicly debating the merits of their fee models, fund managers are not seeing the evidence that one is better than another. 

“We understand that research houses are commercial bodies and that can create a potential conflict of interest, but we have yet to see it. We expect a professional review if we pay a fee, but if they engage in conflicts of interest then it will quickly destroy their business – not ours,” Manager B said. 

Gunesekera is more strident in his view on this matter, stating that it “is utter bull and I don’t buy this view that fees automatically create a conflict of interest. I have not seen it at all”. 

“Fees are just the ticket to the dance and do not guarantee anything to a manager. While we may complain about them, if research houses don’t charge at some point how will they gather the resources to do their work?” 

Samway points out that regardless of payment models, managers are not beholden by the cost of ratings but instead by the outcomes of the process – and should not consider themselves in thrall to a research house. 

“Fees are a distribution cost we pay to a client advocate so we can be present in the market. If the outcomes of the research process, that is connecting us to our clients, is not sufficient or they cannot do the work, we will use someone else,” Samway said. 

“We have seen what the outliers are and we know when a research house gets it wrong. If we feel a research house response to our products is off the planet then we will consider whether they are the best advocate for us to financial planners and their investor clients. 

“This means we judge fees against the quality of the report and the research house’s ability to truly assess what we do and not just as an issue of cost.” 

This business-like approach to the presence of research houses also comes with the knowledge that their presence is preferable to a regulatory alternative which would lack the understanding and scope commercial operations provide. 

“ASIC [the Australian Securities and Investments Commissions] would not be able to bring the technical prowess needed to assess investment processes or teams, and can only really focus on the legality and transparency of the fund and the manager,” Manager C said. 

“If funds were assessed at the regulatory level, than we can expect stifled competition and greater levels of complexity – as the law would be used like a blunt instrument.”