Last month the Financial Conduct Authority (FCA) set out its final rules related to the application of investment research payment optionality to fund managers. This move follows its consultation paper late last year which sought feedback on relaxing rules on unbundling payments for investment research – already implemented for MiFID-authorised investment firms – for fund managers. The rules set out in PS25/4 apply to:
- UK UCITS management companies;
- Full-scope UK AIFMs; and
- Small authorised UK AIFMs and residual collective investment scheme operators.
Background
Under MiFID II, firms authorised under the regime were required to separate (or ‘unbundle’) expenses related to trade execution services from expenses related to investment research. Asset managers were to instead either (a) pay for the research themselves from their P&L, or (b) set up a ‘research payment account’ (RPA) funded by a pre-agreed client charge. Firms were subject to a range of other requirements – including to regularly assess the quality and relevance of research received.
While in theory this boosted cost transparency and therefore price competitiveness of research, in practice the rules were criticised for leading to diminished research coverage of small- and mid-cap companies, excessive compliance costs, and reduced competitiveness and interoperability of EU markets globally (particularly with the US, where bundling remains common and an SEC no-action letter permitting unbundling expired in July 2023).
Post-Brexit, these requirements were extended to non-MiFID firms – specifically, UCITS management companies and AIFMs – while targeted relief was offered from these restrictions for research on SMEs, certain asset classes, and third-country research. However, in 2023 the Government-commissioned Investment Research Review recommended greater flexibility (or “optionality”) for asset managers to decide how to pay for third-party investment research – including through ‘joint payment options’ – i.e. bundled payments for research and execution services.
The FCA proceeded to consult on, and ultimately implement, these reforms in two stages. First, PS24/9 formalised the introduction of payment optionality for MiFID investment firms, subject to certain ‘guardrails’, including:
- The requirement of a formal policy outlining their joint payment approach;
- Annual assessments of the value, quality, and use of paid-for research; and
- Any charges for research costs must be clearly separate and identified.
Second, with the publication of PS25/4, payment optionality has now been extended to fund managers with some amendments to the relevant guardrails.
Summary of the rules
As with MiFID investment firms, fund managers are now also able to pay for research as part of a bundled service. To make use of this option, fund managers must do the following:
- Establish written policies on their approach to joint payments;
- Set budgets for the purchase of research with joint payments, and allocate the cost of research fairly between funds;
- Provide disclosure on joint payments;
- Set out their methodology for calculating and identifying research cost, and their structure for allocating payment to research providers;
- Assess the price and value of research periodically; and
- Be responsible for the administration of the accounts for purchasing research with joint payments.
Research budgets
Certain amendments were made to the guidelines that had applied to MiFID investment firms – including, most significantly, the rules on research budgets.
Under the new rules, research budgets can be put in place across a number of funds, rather than on a fund-by-fund basis, provided they are “set at a level of aggregation that is appropriate to the firm’s processes for managing the investments of the fund or funds.” The FCA explains:
“Where research budgets are set at an individual fund level, the fund can also contribute towards a wider pool of research with other funds that have similar investments. The costs of research should then be allocated fairly between funds that contributed to the wider pool of research.”
The FCA states this will also allow for research budgets to be set where firms both manage funds and provide MiFID investment services.
Authorised funds
Managers of authorised funds are required to disclose increases in the research budgets or where the cost of research exceeds the budgeted amount, and the proportion of any increase versus a funds’ prior budgets.
For authorised retail funds that take up the joint payment option, this is to be regarded as a ‘significant change’ requiring unitholder notification and FCA approval before the changes take effect.
Helpful clarifications
The FCA has – although not loosening the relevant rules – helpfully clarified certain points, including:
Minor Non-Monetary Benefits
The list of Minor Non-Monetary Benefits (which fund managers can receive for ‘free’ without violating rules against inducements) was amended to:
- include short-term trading commentary with non-substantive analysis – in alignment with rules introduced for MiFID investment firms; and
- delete investment research for smaller companies (market cap below £200m) – this is because ‘the research payment rules will no longer distinguish research for companies based on market capitalisation’.
Potential impact
These changes are designed to reduce operational cost, complexity, and regulatory friction with US markets, while ideally – by utilising a system of ‘guardrails’, including budgets, fund policies, and cost allocation requirements - ensuring that these benefits remain balanced against the need to protect consumers.
The FCA hopes many of these amendments will help to benefit SMEs, who disproportionately use RPAs (which can be resource-intensive to operate). However, fund managers will need to consider whether the cost of shifting their operations towards a joint payment model will be outweighed by the potential benefits of broader research access and potential lower research costs.
Similar regulatory amendments have also been introduced by the EU Listing Act Directive (2024/2811), which Member States are to transpose into their national regulatory systems by June 5, 2026.
