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New York, NY - Consistent with the trend seen in the US over the past few years, UK brokers are facing the double whammy of falling execution rates and declining research commissions.

Execution rates continue to drop as clients shift an ever growing amount of their trading to electronic trading platforms and algorithmic systems.  A report published by Goldman Sachs suggests that over 40% of all UK trades executed by a few leading brokers is being executed through low touch / low cost electronic trading venues.

Research commissions in the UK are also projected to fall in the coming years.  Goldman Sachs' Managing Director of Institutional Client Services, James Birch, noted that asset managers' split between research and execution had fallen to 35% / 65% from 50% / 50% just one year ago.

However, one factor that could have a substantial impact on the overall research business in the UK is the underlying condition of the market.  In recent years, strong commission volumes have mitigated the potential pressures caused by transparency and unbundling.  A significant period of falling commission volume, combine with falling commission rates, could have a tremendous impact on UK brokers' businesses.

The following article written by Financial News addresses these issues.


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Falling commission rates threaten to close brokers

Tara Loader Wilkinson
26 Mar 2007

UK equity research commission rates are decreasing and the end of the bull market may threaten the existence of many brokers, according to research by Goldman Sachs.

Commission rates for equity research in the UK have been shrinking since Big Bang in 1986, when the London Stock Exchange was liberalised.

Factors such as the establishment of algorithmic and electronic trading have accelerated the decline. More than 40% of trades executed by leading brokers are conducted electronically, at lower rates than conventional trades, and commission rates have suffered as a result, according to the report.

However, although European commission rates fell 10% in 2005 and 2006, UK brokers' income, which is usually about 0.15% of a trade, has risen by 20% over the past two years because of positive market conditions and higher turnover.

Prices have become more competitive because so much research is available. The FSA's new disclosure rules force fund managers to highlight the amount of commission they spend on research. This could cause fund managers to be more prudent about the quantity of research they consume, and in turn put commission rates under further pressure.

Industry specialists say problems placing a price and value on research make it difficult for fund managers to decide how much to pay. Susannah Lloyd, head of the European investment team at UK asset manager Barings, said: "The issue is the limited information as to the cost of the provision of research, given the immaturity of the marketplace."

She said there was a long way to go before it can be priced fairly.

Research commission fees will continue to fall, according to James Birch, managing director of institutional client services at Goldman Sachs, who believes fund managers will put an even tighter cap on fees this year. In the past, execution and research costs were split about 50/50 but, assuming the stock market remains bullish this year, fees will be split 65% to execution and 35% to research.

The exception is risk trades, which cannot be executed from an electronic trading platform, said Birch. "Rates for agency trades will decline but rates for risk trades will creep up or carry wider spreads."

He said that since the fortunes of brokers were dependent on market conditions, the likelihood of a bear market could mean a steep revenue decline.

But a bear market could also mean the closure of medium-sized brokers. Their lack of specialisation makes them vulnerable but, unlike small or boutique brokers, which could suspend trading to stay afloat, they are too big to cease trading. Many small brokers could become research boutiques and fewer brokers will compete in execution as rates decline, he added.