The CCA/Soft Dollar Paradigm

The following post answers common questions related to CCAs, Soft Dollars, and how to use these arrangements to pay for 3rd party research services.


What are Client Commission Arrangements and how are they different from traditional soft dollars?

A Client Commission Arrangement – or CCA – is an arrangement where a fund manager, or trader, will instruct its executing brokerage firm to allocate a designated portion of the commission dollars it pays to the brokerage to in turn be used to pay for legitimate research services. In this scenario, the brokerage firm sends payment to the approved research service on behalf of the client (fund manager, or other).

Soft dollars, which have previously fallen out of favor due to abuses by investment managers, are monies designated from a commission pool to pay for research and services. CCAs, though paid for through the same commission pool, differ as they are seen as a far more transparent form of payment for independent research.

With an easier payment arrangement available to fund managers, paying for “a la carte” research and services – in this case, alternative research – has become more streamlined, and therefore the alternative research market has boomed in the past few years, in tandem with the use of CCAs. According to Integrity Research, the alternative research industry spawned $1.8 billion in revenue in 2006 and is expected to grow to $2.5 billion by 2010.

CCA usage has emerged as the most attractive way to maintain best execution pricing while also obtaining the highest quality research.


What are the advantages of “Unbundling” execution from research?

The advantage of unbundling lies in maintaining low execution fees and taking control over the quality of investment insight your fund demands. By unbundling these two important business components, clients are able to ensure they are paying for only best execution (i.e. 1/10 of a penny), and then can pay separately for research that their firm truly values. This capability eliminates the existing problem that many funds encounter with bundled services: they aren’t certain what they’re paying for – execution or research. In some cases, the research is not helpful to clients, but they perceive that the research comes ‘free’ with the cost of execution. Unbundling forces both execution providers and research providers to separately provide the highest quality offering, and ensures that the end user receives the best in both services.


How do I know if I am able to use CCAs? Who is qualified to pay with soft dollars?

If you are an investment manager or any type of institutional investor looking to obtain third party research, you are eligible to pay using CCAs or soft dollars. (See below for a more in-depth description of services that can be paid for via CCA.)


What are the advantages of using CCAs to pay for research?

CCAs are a smart and effective way to generate funding for your research initiatives. Investment banks want to maintain their execution business with you, so they will work with you to parcel your CCA dollars as you deem needed. As a result, you pay less for execution and take personal control over the research you wish to receive.


Is StreetBrains able to be paid for via CCAs?

With regards to Section 28(e) of the Securities Exchange Act of 1934, StreetBrains falls under the legal confines of Section 28(e) and thus our research can be provided through CCAs and soft dollar arrangements. We meet the following criteria:

(1) It must fall under the statutory limits of 28(e)
(2) It must “provide lawful and appropriate assistance in the performance of his (the advisor) investment decision-making responsibilities.”
(3) The amount of client commissions is reasonable in light of the value of the products or services provided by the broker dealer.”

In defining Street Brains as a “research service,” we meet the following clauses as stipulated in 28(e):

(A) furnishes advice, either directly or through publications or writings, as to the value of securities, the advisability of investing in, purchasing, or selling securities, and the availability of securities or purchasers or sellers of securities.
(B) furnishes analyses and reports concerning issuers, industries, securities, economic factors and trends, portfolio strategy, and the performance of accounts


How do I go about arranging CCA payments for StreetBrains research?

If you would like to arrange CCA payment for StreetBrains research, contact your prime broker to arrange CCA payments to be designated for payment to StreetBrains.

If you would like StreetBrains to arrange CCA payment, contact us with the name of your prime broker-dealer and we will take care of the rest.


Who should I contact at StreetBrains for more information regarding CCA payments?

Please contact Michael McLean at mmclean@streetbrains.com, or call at 212.430.3091.

Wall Street Sings the Executioner's Song

Yesterday, Sara Hansard at Investment News wrote a brief update announcing that the SEC will soon be releasing new guidance on soft dollars. Although there is no indication that the SEC plans to mandate the explicit separation of research dollars from execution dollars, it seems clear that they endorse the value this separation of services brings to investors, and will be watching carefully to be certain that firms are providing this level of transparency to their clients.

In the article, Jennifer McHugh, senior adviser to the director of the SEC’s division of investment management explains that the separation of research and execution has “had a positive result.”

Although soft dollars (or CCAs/CSAs) were not immediately embraced by most large U.S. brokerage firms, the inevitable separation of research from execution services is leading many large firms to seek opportunities to partner with independent research providers (IRPs). By doing so, these firms are hoping to keep a tight leash on their execution dollars - even if it means abandoning their own in-house research offerings for the more lucrative/less overhead option of IRP partnership.

To no one’s surprise, in-house research may once again face the internal firing squad, as their execution-focused counterparts have increasingly less success selling their commoditized research.

The New Arm Candy

While IRPs may be the new arm candy for execution providers to shop around to clients, this could potentially be a detriment to the end user. Great research will have a difficult time setting itself apart from the pack as more providers gain the ‘endorsement’ of execution firms who are looking to coattail on IRP trade ideas by securing the execution business on the back end of the trade.

For this reason, anyone using independent research will need to be very selective about research providers they choose to work with. The vetting process for finding quality research is a critical component for finding top quality ideas and insights.

Click here to learn more about StreetBrains vetting process.

Rejecting Researchecution

Just as Hollywood’s got Brangelina and TomKat, Wall Street has Researchecution: a hybrid coupling that seemed like a good idea once upon a time, but ultimately has the shelf-life of canned fruit.


The days of Researchecution – the ‘bundling’ of research and execution costs - are very close to numbered here in the US, and are already a thing of the past in the UK. Increasingly more Wall Street firms are asking themselves why they continue to bundle these services, and the case for client commission arrangements (CCAs; commission sharing agreements/CSAs; soft dollar arrangements, etc, etc.) to aid ease of payment for a la carte research - while enabling best execution pricing - is gaining traction. However, this isn’t the first divorce that some on Wall Street have been reluctant to embrace.

Not long ago, you may recall the painful breakup of investment bankers from their beloved research desk counterparts. Although research had been a supportive and loyal partner, investment bankers abused the relationship, and eventually divorce ensued.

The same separation is imminent for research and execution. The issue of transparency over what monies pay for execution vs. what monies pay for research will eventually come center stage – whether it be on a regulatory level, or internally at firms as they struggle to justify all spending in the current volatile market.

The questions that firms are starting to ask themselves are: “What are the benefits to unbundling research from execution? Will it save my firm money? Is it necessary? If so, why has the SEC not implemented a rule requiring unbundling? What advantage will it provide? Will it cost me more in compliance?"

Integrity Research’s blog on Sunday offers a ‘state of the union’ for the current environment for CCAs. At StreetBrains, we’ve been having these same discussions with clients and potential clients as well. The landscape for CCAs is still somewhat uncharted territory and some firms are hesitant to jump on the CCA bandwagon. However, an increasing amount seem to see the value and advantages to unbundling.

To answer the questions above:

1) The benefits of unbundling research from execution are many. First, you will be able to ensure you are getting best execution pricing (since you won’t be ‘factoring in’ research costs.) Second, you can pay solely for research you want and use, rather than being bombarded with research you neither want nor need. You can establish relationships solely with those research providers you value and trust. Third, unbundling research costs from execution costs make for more transparent bookkeeping – and although there is no rule that currently requires that level of transparency, the likelihood of such a rule coming about is imminent.
2) There is little research out there thus far showing whether or not unbundling saves money. What we do know is that unbundling helps firms to more accurately assess the value of their research purchases, so they are able to adjust spending accordingly. Although the cost savings are still unclear, what is clear is that unbundling provides a clearer picture to assess what you are paying for. In a market environment where purse strings are tightening, the ability to pinpoint the cost: value ratio is of utmost importance.
3) Although there is no rule currently requiring research to be unbundled from execution pricing, such a rule is likely to come – and soon. So, using CCAs would seem (and does seem, to many of our clients) to be a no-brainer – stay ahead of the regulatory curve; get a clearer picture of what your firm is spending its money on; and pay for what you value. (best execution, and great research.) Additionally, unbundling improves transparency without adding to compliance costs.

Many more firms are beginning to understand the implicit value of unbundling, and are looking to independent research providers such as StreetBrains as they divorce Researchecution. To learn more, please visit our complete “Myths and Facts” page that helps dispel some common myths about paying for independent investment research.

Dispelling Common Myths About Independent Research

We spend a lot of time talking to our clients and to potential customers, and most days, the issues they discuss with us are the same. So today's blog will address the 7 most common misconceptions we hear - and offer our responses to the issues.

7 MOST COMMON RESEARCH MYTHS

MYTH #1: “All investment research is the same.”

FACT: StreetBrains takes research a step further than what currently lands in your inbox – our research focuses on specialized sectors, niche trends, and unique companies that will help you to garner unmatched returns.

MYTH #2: “There’s no such thing as truly independent investment research.”

FACT: StreetBrains has no investment banking arm or broker-dealer, so our analysts are able to offer opinions free of any conflicts of interest. Period.

MYTH #3: “My firm doesn’t pay for independent research – We get it for free.”

FACT: If your firm pays for execution and is provided with research as an ‘add-on’ or ‘bundled’ service – your firm is paying for that research. “Bundling” of research and execution makes for opaque record keeping, and will soon become extinct.

MYTH #4: “Unbundling research from execution services probably wouldn’t save my firm any money.”

FACT: By unbundling research from execution, you can secure best execution pricing. Then, you are able to take your research dollars and pay separately - and more transparently - for high quality research that delivers actionable information and profitable returns. Unbundling is gaining steam as the preferred approach to obtaining quality research.

MYTH #5: "When the global research settlement terms end in 2008, firms will do away with independent research."

FACT: Although the ten firms involved in the global settlement will not be required to distribute independent research, these firms, as well as most other large firms, have publicly noted their intentions to continue offering third-party research. Because the global settlement required firms to handle their in-house research differently, independent research continues to be a valuable asset to the firms.

MYTH #6: "Soft dollar payments for research will soon be eliminated."

FACT: Although the issue of soft dollar payments looks likely to move to the SEC's front burner before the end of 2007, it is unlikely that soft dollars will be eliminated. It is unlikely that more disclosure and regulation will be required under current soft dollar arrangements, however, the SEC will be looking for ways to show mutual fund boards how they can easily distinguish proper soft dollar arrangements from bad. License-fee payment models - such as StreetBrains' - help deliver transparency of pricing in soft dollars arrangements.

MYTH #7: "Fundamental research is still the most widely used and desired investment analysis."

FACT: According to a recent study by Integrity Research Associates, specialized research has outgrown fundamental research as the leading category of analysis for independent research providers in the UK. As fundamental research becomes increasingly more commoditized, institutional investors continue to search for analysis that gives them an edge on their competitors.

Welcome to The Brainstorm!

I’m Larry Margolis, moderator of The Brainstorm, and co-founder and Managing Director of StreetBrains. The Brainstorm is still in its infancy, so we thought we’d tell you a little bit about what you’ll be able to find here as the blog expands.

As you may know, StreetBrains is an independent investment research consortium that provides limited distribution research to qualified institutional investors. The Brainstorm is where our analysts come to blog about the topics they are most interested in, or the issues and trends that are on their minds in between research reports.

Additionally, The Brainstorm is where we talk about trends in the research industry – what types of research institutional investors are looking for in the current market; new regulations and what they mean for payment arrangements (CCAs, etc); new trends in how independent research is being used and who’s using it; and the myths about independent investment research that we encounter as we navigate the business.

We welcome the opportunity to hear your thoughts and suggestions. To ask a question, offer feedback or make suggestions, please contact blog@streetbrains.com.

Please check back regularly to see what we’re Brainstorming about.

- LM