Wednesday, November 21, 2007

In-House Research: Threat Level: Elevated

Tumultuous markets are leading to an increasingly treacherous landscape for in-house analysts at large and mid-sized firms alike. While the majority of the blame game is taking place in the credit arena, soon, it is likely to penetrate other areas as firms search for ways to regain some of their lost revenue. Before long, the in-house research desks will be asked to stand before the tribunal and prove their worth.

In-house research has been the red-headed stepchild within firms since the fallout in 2001. Seen as a cost center, the research desk has been tossed around from division to division within firms, with no one wanting to take on the ‘overhead’ of supporting them. In a tightened market, the ‘hot-potato’ toss will likely resume for who is responsible for the in-house trading desk.

Are the days of in-house research over? Will we see all research end up being outsourced, where firms can more easily scale their usage of research with the rise and fall of commissions and revenues? It would seem that the day is nearing where these questions are seriously asked.

In any case, it is likely that an increasing number of great in-house analysts will jump ship and move into the independent side of the business to places like StreetBrains.

Making the case for independence

While having a big firm's name to put on your business card used to grant instant credibility for analysts, now, many industry peers will instead make the assumption that your research is a) tainted or b) commoditized. You turn on CNBC, and more and more lesser known firms are popping up as credible, independent sources, whose insights are not commoditized. The playing field is leveling – and rightly so – where the success and credibility of an analyst is more a reflection of track record than affiliation.

Independent analysts are also helping their own cause by proving time and again that it’s not just the big boys who have the tools to get calls right. On the contrary, in a constricted market, it’s hard to ignore the possibility that leaks and cracks in those ‘Chinese walls’ between investment bankers and research desks may deteriorate quickly when a firm’s best interests are at stake. For many institutional investors, it’s just not worth the risk to rely on this type of questionable intel when placing big trades.

So, while highly scrutinized (sometimes unfairly) large investment firms walk the tightrope of finger-pointing and protectionism – the path is being cleared for independent analysts to step up to the plate and establish their value.

While the internal battles ensue at the big Wall Street firms, those analysts who have found the right formula and business model are in a position to capitalize.