The Great Unbundling Begins

Over the weekend, I finished a book that I highly recommend to anyone interested in geopolitics, global trends, and just generally looking at the world from a different perspective: The Accidental Superpower. It talks a lot about what makes a country powerful and, as you may have guessed, a superpower. Like most things in life, a lot of luck is involved, but also effort and timing. The author talks through demographics, infrastructure, culture, and a number of other topics, and it’s altogether fascinating (did you know the US has more navigable waterways than the rest of the world combined?). While the book focuses on the US, and what the future may hold for the nation, it still covers a broader analysis on the rest of the world, including Europe.

One of the main thrusts of the book is that the US market is only going to become more of a global destination, and being able to engage with that market will continue to become more important, not less. Additionally, the author puts forward that foreign markets will become less important to the US (as exports already represent a very small portion of the US GDP), and the US will be happy to trade amongst itself (as it already does). Put those two together, and you can see a clear “take it or leave it” approach when it comes to harmonizing legislation – i.e. you can play by our rules, or not play at all, your choice.

The author then spends a good deal of time talking about the various nations of Europe. Specifically, he speaks to which nation is best positioned for success in the coming decades based on things that a country really has very little control over: raw resources, natural infrastructure, and demographics. While Germany is a powerful EU nation now, he highlights several challenges the nation will face over the next 25 years, in addition to the challenges the UK will face. The one European nation that stands out though, is France. France has an attractive population pyramid, access to raw resources, and great natural infrastructure.

So, why do I think this all matters? 

Let me caveat this by saying studying geopolitics is a hobby of mine, not a profession. I might be way off on some of this, but to me, the mosaic of effects looks like it’s all coming together.

First, we have the US – a country that everyone wants to be able to engage with, access, and sell to. It is unlikely that the US Government, FINRA, or the SEC is open to being dictated legislation by the European market, and that will be increasingly unlikely over the coming years given the trends highlighted above. In fact, we’ve seen over the last years that while they are willing to write no action letters to at least provide some semblance of support for MiFID rules, they are going to timebox it, and they will not commit to it indefinitely. The great thrust to have MiFID II “go global” has thus ended. So, you have one nation taking their securities market one way (the US remaining bundled) and you have one nation (or a group of nations, the EU) taking their market the other way (unbundling) – the question is, who has more staying power, and who needs who more? The answer seems clear to me.

Second, within the EU, you have a shifting balance of power. Over the next 25 years, some nations will become more influential, and some nations will become less so. Most of those trends will be driven by demographics (earnings power/drag on the economy) – the more young people you have generating taxes, and the fewer retirees you have drawing on the system, the more excess capital you have to invest.

Within the EU, the nations that are sitting in the proverbial driver’s seat of the economy will be able to choose where to go – and those nations seem bent on returning to a bundled world. It makes sense, too – why wouldn’t France jockey to move the financial center of Europe from London to Paris? Additionally, it might even make sense for it to move to Paris, given that the French population may have the greatest excess of capital to invest over the next 25-50 years, based purely on their demographics.

The cracks are already forming – for anyone watching the headlines this week, the European Commission has already begun a discussion about “exempting certain stocks and bonds from unbundling requirements.” Yes, they are putting some guard rails on it now: only companies with a market cap below $1B Euros, but like the first crack emerging in a dam, it’s either going to be sealed or break – my guess is break.

I mean, when we think for a moment about the logistical nightmare of having some arbitrary demarcation line on a market cap where MiFID II does or does not apply, it’s insane. Market caps change – what happens when a $900M company becomes a $1.1B company? Does all research have to start being charged for? What happens when the reverse occurs? Does all research become free?

So, what do I think this looks like? Assuming this first wedge gets through the European Parliament, you can expect to see more exceptions added. There might be creep in the market cap range, specific asset classes or sectors, or other specific exemptions. Then we’ll see complaints from the industry – brokers and funds – that this is only adding more complications to the MiFID implementation, and how are they supposed to absorb these increasing costs?

If I had to guess, the final thrust will come from Corporates, the Exchanges, and from the listings business. As a company, the choice of where to list seems rather obvious: you choose the place where you are likely to achieve the highest share price possible – it’s not just something you want, it’s literally a fiduciary duty. While capital access is important, a major differentiator will be how much your story is ‘told’ – meaning, how much research coverage you receive. If you are likely to be more covered in a bundled world, you’re more likely to list in a bundled world. It’s that simple. Why wouldn’t I want to go where I have the best chance to tell my story, thus the best chance to meet more buyers of my shares, thus a higher share price?

Cracks are forming in the stance towards MiFID II. I’ve said it several times on my blog previously (here and here), but if the EU regulators can find a way to change the legislation, and still save face (i.e. not admit it was a mistake), then I believe they will take it. I thought that could be Brexit, but it could also be COVID. It’s interesting to see that this isn’t just about reforming MiFID II – this is about creating a “COVID recovery package” instead.

Whatever sells the story, I guess.

Expect more to come – I think this is just the beginning.

Blair Livingston
Street Contxt

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