The diminishing role of investment researchers

As passive investing grows, the need for discretionary investing services reduces. This is especially so for retail investment. For smart money, quants introduced smart beta, automating unique factor loadings. In both cases, the picture of an analyst in front of a laptop with his valuation model may cease to exist in the long term.

Research firms charge six figure sums for their services. These fees are loaded into funds. Fund managers can choose to hug the index and lower the cost, casting responsibility of performance to the market, or pay for such services and try to outperform the market. The choice is clearer in these days. A wide majority of funds fail to beat their benchmarks persistently. The number shrinks over a longer horizon. To lower costs, fund managers are more likely to give up these services, whose value is harder to ascertain, than other stickier expenses (e.g. bonuses and salaries).

Buffet, Bogle and the late Ben Graham advocated index investing. They assumed the market was efficient. Based on decades of investment returns, they seem to be right. In this case, most researchers are unlikely to add to the discovery of alpha. Perhaps they can create a healthier ecosystem by discovering fraud and dissecting financial info. But the role of creating information is quickly being disrupted by data analytics and social media. Alipay’s Sesame Credit analyzes trustworthiness by the data they collect from customers – their buying and selling patterns, their credit decisions and social media behaviour.

My take is that demand for investment researchers will decrease. 80% of sell side reports do not add much value. Charting of financials and repeating press releases simply do not make the cut anymore. The few star thinkers will continue to command high pay in buy side. Like logistics, e-commerce and payments, the research sector will likely be disrupted.