“One of the nation’s largest mutual-fund companies is throwing a monkey wrench into the money-management industry’s plan to address concerns about how its members pay for investment research,” writes Ann Davis in today’s Wall Street Journal.

“Mellon Financial Corp.’s Dreyfus Corp. agrees scrutiny is warranted in the controversial practice known as ‘soft dollars,’ under which large institutional investors pay above-market trading commissions in exchange for an array of research products and services. But Dreyfus says a proposal put forth by the Investment Company Institute trade group in December — which benefits large Wall Street securities firms at the expense of many independent, smaller firms — isn’t the way to go.”

“At issue is the ICI board of governors’ recent decision, in a divided vote, to ask the Securities and Exchange Commission to bar the use of soft dollars for stock-research products, computers and software that come from outside vendors. The ICI proposes that its members continue to be allowed to use the payment system for research and other services produced by the big Wall Street brokerage firms that handle a large portion of their trades, though it says Congress should look at the issue.”

“Billions of dollars in such costs are passed on to mutual-fund shareholders as ‘commissions’ each year, rather than being billed as investment-management expenses.”

“Stephen E. Canter, chairman and chief executive of Dreyfus and vice chairman of parent Mellon, said the proposed restriction would hurt fund shareholders by snuffing out some of the most innovative research used by portfolio managers.”

” ‘I think it’s likely that a number of highly valued, independent research organizations would no longer be in business. We would all lose valuable input which we think is integral to our investment process,”‘said Mr. Canter, a member of the ICI’s board. While nothing prohibits Dreyfus from paying directly for such independent research, fees and expenses are under heavy pressure. And some independent research shops say they couldn’t easily pay the marketing costs necessary to reach the mutual-fund firms directly, especially if in-house brokerage research continues to enjoy the benefits of the soft-dollar system.”

“Mr. Canter added that it is ‘intellectually inconsistent’ to protect one kind of research and not another, ‘particularly coming on the heels of the settlement last year’ in which Wall Street firms agreed to pay $1.4 billion to resolve regulators’ allegations that they had issued biased stock research that harmed investors.”

“Dreyfus’s opposition to the ICI’s proposed changes shows the difficulties that the industry may face trying to alter, as opposed to abolish, the soft-dollar system, which has long been of concern to regulators and mutual-fund watchdogs. The traditional beef against soft-dollar arrangements is that mutual-fund shareholders get socked with higher-than-necessary commissions and possibly substandard price execution, while picking up costs that otherwise would be reflected as an investment-management expense.”