Analyst data has passed point of no return

Serious Money: The world's largest fund manager made headlines the other day when it announced an experiment that chilled the blood of many a stockbroker - and quite a few other money managers as well.

Fidelity has decided to pay stockbrokers directly, and transparently, for research. This means that brokers will be told what Fidelity thinks their research is worth and receive a cheque accordingly. That cheque will come from Fidelity's bank account. This last point may seem innocuous, but until recently, brokers have been paid for their research output via commissions on equity trades, and the person paying the bill has been the end investor, not the fund manager.

So anyone placing funds with fund managers have had layers of fees to contend with: the money manager's charges, plus the costs of trading and commissions paid to brokers. It all adds up.

Paul Myners's suggestion in the UK that brokers' fees be "unbundled" is being taken up by the industry, mostly voluntarily, but largely because if they didn't do this there would quickly be legislation.

Myners's views have been forthright: much broker research isn't worth the paper it is written on; most analysts are egregiously overpaid and the whole system of overpaying for useless research is a big part of why the industry has such a bad name.

Stockbroker research has been attacked from other angles as well. Elliot Spitzer in the US has gained notoriety for his assaults on analysts who hyped stocks out of all proportion, particularly during the bubble years. Brokers have been fined and many have been forced to help fund independent research boutiques. Spitzer focused on independence because of the widespread belief that much research is heavily compromised by conflicts of interest with the investment banking industry.

All of this has potentially profound consequences for the industry, including smaller investors who give their money to the likes of Fidelity to manage. Even those punters who try and do it for themselves will see some changes.

Fund managers have actually been paying less and less for research for some time now. On the grounds that you get what you pay for, many in the industry point out that it is no surprise, therefore, that the quality of research can be low and/or tainted by investment banking conflicts. Alternatively, it could be that commissions have been falling precisely because the quality of research is so low (and because the cost structure of many brokers is still way out of line with anything remotely sensible).

Another reason why it is right to avoid relying too much on broker research is precisely because of the Spitzer reforms. Lawyers and compliance processes now dictate much of what comes out of an investment bank, often at the expense of timely money-making ideas.

Jim Cramer is one of those TV pundits from the US who manages to jar most of the sensibilities of people in the industry on this side of the Atlantic. But some of his recent comments about research are worth repeating: "Analysts are colourless and odourless and sanitised and fear Spitzer to the point of death."

While Cramer may be exaggerating to make a point, he has a point. And it is, from a completely different perspective, the same point as made by Paul Myners. So, if broker research has passed the point of no return, what is the investor to do?

Obviously, he could simply trust Fidelity to get it right. Presumably, Fidelity thinks it will only pay brokers what they are worth and that this will have something to do with money making research ideas. So, to the extent that they pay brokers, the investor shouldn't mind, since Fidelity will only be giving cheques to people who have made them money. And, to the extent that broker research is inadequate, Fidelity's huge internal research effort might be presumed to fill the gap.

This is where investors need to ask questions. How will I end up paying for broker research? How will my fund manager do research? And, how will I end up paying for in-house research? At the very least, these questions should now, in the UK at least, be answered properly.

For those investors willing and able to take on their own research, there are all sorts of ways to make informed decisions without paying through the nose. Serious Money has previously described the growing wealth of free resources available on the web that can take the ordinary punter a long way. But there is now a source of information that can leave the smart investor at least as well-informed as the rest of the posse. In some cases, because of those legal and other restraints on what investment banks can and cannot say, web-based sources can give better and more timely information than that received by large investment institutions from their brokers

Take the telecommunications sector of the stock market. There are several blogs currently being written by industry experts that give us more than enough information necessary to make proper investment decisions. They are written by highly intelligent, technically savvy people, many of whom work deep within the telco industry. They can write things that would never get past an investment banking compliance officer. Clearly, there is scope for abuse here - there are plenty of instances of internet chatrooms and the like being used to hype stocks and dupe gullible investors. But the blogosphere contains a peculiar element of self-regulation, meaning we quickly get to find out who the charlatans are.

In a sure sign that the big boys have noticed that they are being sidelined, at least one large London stockbroker has sanctioned its telco analyst to write a company-sanctioned blog (purists may think this is a contradiction in terms, or at least beside the point).

Anyone interested in telco research would do well to look up "telepocalypse" and "euro telcoblog". Martin Geddes, who writes the former, includes a long list of links to other bloggers worth taking a look at (And the title of his blog gives away the flavour of what he thinks is about to happen to established telco firms). James Enck, who writes the latter blog is actually a broker by day (but this is not the officially sanctioned blog mentioned previously).

The way the investment world does its research is about to change, and in ways that are far from obvious.

Chris Johns is an investment strategist with Collins Stewart (yes, an analyst). All opinions are personal.