2009: Bigger Changes in Sell-Side Research Coming

Hindsight is 20-20, but I still wanted to go back to a post and research report from 2006 titled Saving Sell-Side Research.  The report started like this:

While the news on sell-side equity research could hardly be any worse, Booz Allen believes that sell-side firms will remain the dominant research providers to the buy side.

Sell side research's investment banking linkage has been constrained as a result of the global settlement with regulators. Its economics are further depressed by decreased trading commissions, which have fallen by approximately 50 percent in the last five years, and by the fact that some buy-side firms are seeking unbundled trading from research.

There are also regulatory pressures, led by the United Kingdom's ’s Financial Services Authority (FSA), in transparent reporting of commission-related services. Finally, there's increased buy-side interest in, and sell-side funding for independent research. Industry experts forecast that sell-side research revenues of approximately $5 billion will fall by up to 50 percent in the next few years.

Despite this bleak reality, Booz Allen Hamilton believes that sell-side firms will remain the dominant research providers to the buy side, even in the face of competition from independent research providers and buy side’s own research staff. Granted, industry capacity will adapt to the emerging economic reality: One hedge fund manager predicts that the industry will have "10,000 instead of the current 25,000 analysts." But the sell side's unique strength in research will remain.

Leveraging their scale and relationships, winning research providers will offer new products, services, and distribution formats to best serve buy-side needs.

No such luck.  The current Business Week has an piece titled In Search of Stock Research.

In 2009 many investors will find themselves looking for new sources of equity research. Wall Street firms, crushed by subprime losses, have laid off scores of equity analysts. Goldman Sachs (GS) let go of a dozen analysts covering industries from newspapers to industrial materials in November, and Citigroup (C) said it was dropping coverage of 7% of stocks its analysts once followed. (A Goldman spokesman says the firm has increased the total number of stocks its analysts follow worldwide over the past year.)

And that's after competitors acquired Lehman Brothers (LEH), Merrill Lynch (MER), and Bear Stearns (BCS) and slashed the ranks of their analysts. The total number of senior analysts shrank 40% to 50% over the past year, says Sandford Bragg, CEO of Integrity Research Associates, which tracks analysts from over 1,000 firms for institutional clients. "We've been forecasting consolidation for some time, but we didn't think it would happen so quickly," says Bragg. Even analysts holding top rankings from Institutional Investor magazine and The Wall Street Journal will find themselves looking for work, he adds.

The equity research arena is a mess, and this affects not only buy-side firms who are the main consumers, but also sell-side and professional service firms who consume research after a week or two embargo.  We've been finding more and more customers looking at independent research providers to supplement the shrinking amount of product available from the street.  I recommend reading the Business Week article, but more importantly read Integrity ResearchWatch, the blog of Integrity Research, which follows the research space as closely as anyone and Information Arbitrage where the latest post opines on the coming disaggregation and specialization of Wall Street.