Hidden agendas: Danger of anonymous stockmarket “research”

Some respected online financial sites have recently taken down more than 100 “research” articles anonymously written. The noise of this conflicted commentary, often in the guise of research, threatens to distort share prices and swamp markets. While much of this problem has been focused on the US, UK and European companies are also covered on these sites. One recent example – video search technology group, Blinkx, where a blog wiped 40% off its share price – is a wake-up call for investors and regulators.

Investment research has been transformed by online delivery. Very little paper now arrives on the desks of institutional investors, and tablets have accelerated the revolution. It has brought an explosion of data, rapid access and slashed delivery costs. But, now some of the negatives are beginning to emerge. Mixed in with regulated research is a lot of investment commentary of questionable integrity and value, not properly revealed in disclosures.

Many of the high profile sites have hundreds of contributors, intentionally drawn from the buy-side. The theory is that institutional investors can promote the stocks they hold, with their commitment and professionalism not in doubt. This mirrors the long established practice of “reverse broking” in which buy-side investors talk their book to sell-side analysts, trying to influence them with contrary views. The hope is that an analyst will change a recommendation to favour the investor’s position. And, while some question the ethics of this, interests are usually evident and challenging analysis is a healthy part of price formation.

If they are employed by regulated firms, what institutional investors and sell-side analysts can do and say is strictly controlled by a regulatory framework. Many will also have codes of conduct if they are members of a professional body. But, the new stock research sites and many blogs do not identify qualifications, interests or regulatory status. Not all who write for these sites are investment professionals or even independent journalists. Indeed, recent scandals have shown that college students and investor relations advisers are involved in disguised share promotion, sometimes with dubious financial incentives.

At its worst, this can look no better than the traditional “pump and dump” ramping of smaller company stocks. These authors, while anonymous, can even be fronts for other investors, who may have an underlying stock position or intended trade. Readers may not be aware of the hidden incentives that motivate these authors. But, the result can be dramatic share price moves, distorting the portfolios of long term investors.

The conflicts can be subtle. What is presented as a strength of some financial websites – the likelihood that contributors own a position – “skin in the game” – is naïve, as there is no sense of the direction of the position or whether it might change through trading following the article. The journalistic practice of protecting sources typically involves editorial oversight of that privilege, whereas anonymous authors with a vested interest may be under no editorial, regulatory or professional sanction.

Financial regulations are supposed to control this, and in Europe market abuse is framed in broad terms in MiFID. So, some of the US activities would undoubtedly be classed as market abuse in the UK or Europe. However, the main focus of regulators is on regulated firms and individuals, and not on some of the murkier areas of the web and social media. The US Securities and Exchange Commission has this month issued new guidance on social media, but this focuses on endorsements and advertisements, rather than share promotion. In the UK, the Financial Conduct Authority has reminded firms that online activity is subject to the same principles and rules as printed material. But, for non-regulated sites, this has little impact. And, grey areas are opening up in the increasing use by broking firms of marketing commentary as “research”.

However, the most concerning examples have not been about sponsored stock touting that should have been labelled as an advertisement, but the potential for anonymity and pseudonymity to conceal short positions and offer misinformation.

In the case of Blinkx, the blog was not anonymous – indeed it carried the credibility of being written by a Harvard professor. The key issue was the potential for undisclosed conflicts; any underlying incentives were not revealed. While the work had been separately commissioned, the investment position of the original client was not clear. Whether the professor had no financial interest in seeing the share price fall, was not the point. Without full disclosure, there could be the potential of reward for another with a short interest. Blinkx itself said it “questions the motivations and transparency of both the blogger and the sponsors of his research, who may have made significant financial gains as a result of the adverse impact on Blinkx’s share price”.

Much regulation has been directed at removing boiler room scams, market manipulation and insider trading. But, the internet and social media, combined with little sanction on those who misuse the term “research”, could now undermine confidence in markets. Most regulated firms in the UK have a social media policy, and many permit staff to contribute. But, this still requires the same warnings on conflicts, risks and stock ownership. In contrast, the new websites are widely syndicated and disseminated, with dubious and self-serving material seeping into some respected mainstream sites. A clear disclosure policy is urgently needed.

Unfortunately, there is little that regulated firms or professional bodies can do to control these new activities, but collective action to set standards would help. A code of practice could fill the gap while regulation catches up. But the real solution would be for regulators to recognise the new landscape, and tackle material that claims to be research but is not.

A version of this article was published as an Op-Ed in Financial News on April 21 2014.

Disclosure: The opinions expressed in this article are my own, and may not represent the views of any firm or entity with which I am affiliated. I have no business relationship with any company mentioned in this article. Neither I nor my employer or its clients have any financial interest in Blinkx plc. The information presented in this article has been obtained from sources believed to be reliable, however, I make no representation as to their accuracy or completeness and accepts no liability for loss arising from the use of the material. Articles and information do not represent investment advice.

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