ResearchWatch from Integrity Research Associates

Monday, November 19, 2007

130/30 Funds and Non-Traditional Research

New York, NY - In recent weeks we have discussed that the proliferation of hedge fund type products offered by long only asset managers could have a significant impact on the demand for various types of alternative and sell-side investment research. The following is additional evidence to support this thesis.

It is clear that 130/30 funds and other similar investment vehicles that add short ideas are becoming much more popular. According to a report published by Tabb Group, assets under management in these products, which are currently estimated to total close to $140 billion, have the potential to grow to more than $2 trillion over the next three years.

The big question that remains is how will this impact the demand for various types of investment research? A recent study we conducted of Buy-Side Directors of Research might provide a clue to this question.

For example, 35% of hedge funds valued research based on forensic and quality of earnings analysis -- research that generates short ideas. Strangely, 52% of non hedge funds were interested in this type of research. The reason for this discrepancy is that most long/short equity hedge funds we have spoken to already know the best providers of this type of research, whereas many non hedge fund firms have never had to focus on research that generates "short ideas". This, however, will change if and when these firms offer 130/30 funds.

This past spring, Integrity Research Associates published a ResearchFocus report on the 19 alternative research providers that produce earnings quality, forensic accounting and short ideas-based research. While all these providers are unique in their approach to generating ideas, they can all be placed into one of three broad methodological categories:

Quantitative Research Providers
Qualitative Research Providers
Quantitative/Qualitative Research Providers (“Blended” Methodology)

The table below lists all the firms on the basis of their methodological style:

Research Firms Categorized by Methodological Style

Methodological Style	Number of Companies	Company Names
Quantitative	4	Audit Integrity, FinEye, New Constructs, StarMine
Qualitative	11	Accountability, Assay, Austin Stock Research, Behind the Numbers, Company Reporting, Harris Business Solutions, Off Wall Street Consulting Group, RateFinancials, Short Ideas, Veritas Investment Research, Voyant Advisors
Quantitative/Qualitative “Hybrid”	4	CFRA, Glass Lewis, Gradient Analytics, Jefferson Research and Management

As the table above shows, there are more than twice as many firms that perform qualitative research than quantitative research providers. Yet our analysis indicates that firms following a “hybrid” methodology have a greater share of the overall market than both the firms that perform strictly quantitative and qualitative research combined.

The disproportionate market share held by the firms that have “blended” methodologies can be attributed to the fact that two of the industry’s biggest companies, CFRA and Gradient, both fall into this methodological category. There are several significant providers in the qualitative sector as well, notably Behind the Numbers and Off Wall Street. Most of the rest of the companies are either small or receive a small share of their revenues from their earnings quality, forensic accounting or short ideas products.

For more information on quality of earnings, forensic accounting, or short ideas research, please contact Matthew Bannister, at Integrity Research Associates. Matt can be reached at 212-710-2603.

Posted at 12:33 pm by mwmayhew
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