Hardman & Co has published a number of Insights using its unique database of liquidity, built from the ground up from London Stock Exchange (LSE) data. It is our intention to help companies and investors understand how MiFID II is affecting the research environment, by publishing regular updates in our ‘MiFID II Monitor’ series. The new regime has been in force for just over six months and now seems an appropriate time to take stock (apologies for the pun).
The most notable impact, so far, has been among mid-cap companies listed on the LSE’s Main Market, with liquidity falling by 9.8% on a rolling 12-month basis. The analyst count is down 4.7% since January this year. Small-cap companies have always known that analyst coverage and liquidity are an issue for investors. Perhaps it is time for the managements of mid-caps to wake up to the same challenge.
Last October, Hardman & Co published a study on the liquidity of stocks listed on the LSE and the potential impact of MiFID II (Markets in Financial Instruments Directive II), which came into force in January 2018. We predicted a sharp fall in the research revenue ‘pot’ (broadly related to the value of shares traded) following the implementation of MiFID II, which would make it uncommercial for brokers to write research about most small- and mid-cap stocks, if they were not retained as house broker.
Just over six months have passed since MiFID II came into effect. That is still a very short period of time, but sufficient to have a first look at impacts. We were far from alone in our concerns. For example, a paper published by the Quoted Companies Alliance in October 2014 outlined that
‘At present, many small and mid-size quoted companies are only covered by one or two analysts and some are not covered at all…. the proposals will decrease the amount of research available on small and mid-size quoted companies, and …negatively affect their ability to raise finance…a reduced level of research will have a negative impact on the trading liquidity of UK small and mid-sized quoted companies…(leading) to greater volatility and higher bid-offer spreads.’
MiFID II might eventually affect broker distribution, broker interaction, research coverage and liquidity. Already we have seen a sharp reduction in broker distribution . It is certainly early days and the data are, in many respects, mixed, but some market capitalisation size bands have seen sharp reductions in both liquidity and analyst coverage. Company managements need to watch this carefully, because many commentators believe that lower liquidity and reduced analyst coverage spell trouble for company ratings, and make raising money much harder.