A $1.4 billion settlement with regulators Friday has chastened major brokerage houses, but Wall Street will remain a risky place for small investors.
The deal comes after a devastating three years for US investors, as a long bull market of the 1990s gave way to trillions of dollars in market losses.
The settlement achieves a key goal of federal and state regulators: to fundamentally change the way brokerage houses manage stock research. Observers agree it will give a boost to more straightforward and independent "buy" or "sell" recommendations.
It also hits brokerage firms where it counts: their bottom lines. While the firms do not admit to misleading investors, the $1.4 billion settlement is one of the largest ever won.
But few observers believe the moves can change a stubborn truth about Wall Street: Picking stocks will remain a perilous business for ordinary Americans.
"The vast majority of investors have no business trying to pick individual stocks," says Barbara Roper, director of investor protection at the Consumer Federation of America in Pueblo, Colo. Instead, she says, they should consider investing in mutual fund shares or other investments that provide a diversified portfolio.
The "global settlement" calls for 10 firms, from Citigroup, to Goldman Sachs, to sever ties between stock research and investment banking. Those ties became hot news when New York Attorney General Eliot Spitzer made public internal e-mails of analysts deriding companies that they were, at the same time, recommending to investors.
Critics say that, too often, glowing research reports about companies help brokerage firms win lucrative investment banking business from those companies, such as underwriting their new issues of stock, or their bonds.
Much of the settlement's impact will depend on enforcement. Ms. Roper says regulators must see to it that the 10 investment firms do not use "more subtle means" to pressure analysts to make recommendations that will benefit their investment banking business.
Under the settlement, analyst compensation cannot be based on how much investment banking business their research stirs up. Analysts will not be allowed to accompany investment bankers on pitches and road shows aimed at winning business.
Joining Spitzer in the "historic agreement to reform investment practices" was the US Securities Exchange Commission, other states, and, in a self-policing effort, bodies such as the New York Stock Exchange.
The Wall Street firms were fined $900 million. The money will be split among the states involved and the regulatory agencies. The firms also committed themselves to financing $450 million of independent research - to be done by companies other than themselves - over five years.
"There will be more competition ... $450 million is a lot of money," says Jean Buttner, president of Value Line, a New York independent publisher of stock research. She expects independent research firms to multiply.
The settlement leaves open the possibility of individuals suing brokerage firms.
The regulators plan to make public their findings on the 10 firms. This could help investors who allege that they have suffered losses due to dishonest recommendations. But proving deception is difficult.
Though the $1.4 billion cost sounds huge, John Rutledge, chairman of Rutledge Capital in Greenwich, Conn., calls it "a slap on the hand ... a Christmas present." He says the cost is about 1 percent of the profits of the firms.
"They had good negotiators," he adds. "It s a great victory of the brokerage industry over justice." In the 1990s, one firm alone, Prudential Securities, paid $1.5 billion in fines and restitution to investors who lost money in risky limited partnerships.
Still, the settlement imposes new rules, such as a ban on "spinning" initial public offerings (IPOs) of stock. Brokerage firms will not be able to allocate lucrative IPO shares to corporate executives who could influence investment banking decisions.
But rule changes often have unintended consequences.
Some 20 or so years ago, brokerage houses spent a great deal on stock research as a way to compete for investor clients. But then fixed commissions on stock transactions were deregulated, and discount brokerage firms forced down these fees.
So, in the booming 1990s, some investment banking firms - such as Merrill Lynch - partly justified the cost of research by using it as a tool to drum up investment banking business - a conflict of interest that hurt investors.
Now, with that income source chopped off, there will be less research, some predict.
To Eugene Fama, that may not be much of a loss. The University of Chicago economist says that academic research finds "little evidence people can make money from [brokerage] research."
He's says stock prices quickly adjust to the latest information on companies and that it is extremely difficult for investors to beat the stock market averages on a long-term basis.
Research is intended "to peddle stocks" so brokers can make money on the trading fees. "They are organized to churn," he says.
Certainly Wall Street disagrees with Professor Fama.
Investors may get new tools to decide for themselves who is right. The deal provides $85 million for "investor education."