Good ideas will always command a premium

Serious Money: The writing of investment newsletters is an ancient art, but one that has largely disappeared from the European financial scene. Investors in this part of the world are happy, it seems, to get all of their external research from stockbrokers. And, as most of that research has, until recently at least, been supplied free of charge (sort of), investors have mostly got what they paid for.

Anyone trying to persuade the European financial community to pay for independent, quality research has usually ploughed a very lonely and not terribly profitable furrow.

The quality of research, or lack of it, lies at the heart of the attacks launched by the attorney general of New York, Eliot Spitzer, on Wall Street investment banks. The now notorious memos unearthed by Spitzer that rubbished the output of many firms - memos penned by the authors of that same research - led to large financial penalties and a commitment by some firms to fund external and independent research.

In similar vein - but without the lurid exposés - London-based investment banks have begun to "unbundle" their product offerings, meaning that, for the first time, we begin to get a rough idea of how much investors are willing to pay for ideas.

In the past, the costs of providing equity research has been hidden in commissions and has been cross-subsidised by the corporate finance divisions of the large houses. The potential for conflicts of interest - biased research - is well documented.

Equity analysts have feared the reforms in the UK, thinking that it will lead to lower salaries and fewer jobs. The author of the reforms, Paul Myners, seems to hope that this will indeed be the case. But, as always with the law of unintended consequences, there are preliminary signs that good ideas are now coming at a higher price. Now that we can sort the wheat from the chaff, the good stuff is starting to command a premium.

In the US, independent research that people are willing to pay for actually pre-dates the Spitzer revolution. I suspect that this is because there are more sophisticated private investors who understand that good ideas will always command a premium and who appreciate the quality, or lack of it, of some of the output of Wall Street. And if they pay for independent research, they have the opportunities for low-cost dealing that are not as prevalent in this part of the world. In Europe we have, until relatively recently, been faced with a take-it-or-leave-it attitude to dealing costs. We are not there yet, but we are moving towards a world where we can choose what we pay for and how much.

What is on the minds of those US newsletter writers? Given that there are so many of them it would be impossible to summarise their output - it is, inevitably, heterogeneous. However, a casual scan of some of the more well-known writers reveals some common and surprising themes.

First, for a bunch of people that advertise themselves as stock-pickers, there is a surprising macro bias. There is an almost universal belief that the US consumer is heading for Armageddon, via a meltdown in the housing market, and that the equity market will be an obvious casualty. This reminds me of the kind of stuff being written a year or so ago by London-based economists about the UK.

Second, they nearly all try to model themselves on Warren Buffet. And, given that there are so many of them, they have noticed and are describing "value investing" as being something dangerously trendy. Not surprisingly, they see very little value in US equities.

Third, the investing universe begins and ends with the US. It is surprising that when travelling in the US it is very tough to imagine that there are any other markets other Wall Street. Pick up a copy of the Wall Street Journal and it is hard to find mention of anything east or west of the US.

The stuff about value investing is interesting. Quite a few authors relate the anecdote about the ex-chief investment officer of (then) Phillips & Drew Asset Management who famously lost his job for being ultimately correct in his bearish view of the tech bubble of the late 1990s.

Everyone quotes Jeremy Grantham who once said that the typical asset manager will still be fully invested in stocks that he believes, with 70 per cent certainty, to be over-valued since there is a 30 per cent chance that he will lose his job.

The obsession with value investing is understandable - it is the only proven tactic of making money over the (very) long term. But the fashion for style investing is also destined for the scrapyard, notwithstanding the pernicious influence of investment consultants determined to cling to their fees. The new world is starting to be populated with investment managers who try to buy things that will go up in price, and vice versa. If you thought that is what your manager was supposed to be doing you haven't been paying attention.

All of this is symptomatic of a rapidly changing industry. And most of the changes are for the better. The fund management business is not as awful as some of these newsletter writers seem to believe but the fault lines are obvious. Mediocrity has been found out, but so have the good guys. A more discriminating market place will be the happy result.

Which means that investors can expect better service and, if they get their manager selection right, better performance. But the rub is that this will not happen if they are unwilling to pay for it. That's the market place.

Chris Johns is an investment strategist with Collins Stewart. All opinions are personal.