On my last tour of Australia many people were keen to discuss the stock market. They were anxious about the reliability of information available on the business channels – especially the information provided by market analysts.
Understanding analysts
I don’t put a lot of credence in analysts’ reports – especially when they give a ‘strong buy’ recommendation. The purpose of the business channel is not to benevolently share their information with the public. Far too many people believe that analysts are providing accurate, complete and unbiased information. This is NOT the case. Analysts want to generate commissions and cozy up with the companies they cover.
Sell… Strong buy…
What does this mean?
Did you know that despite the current depressed state of the stock market, fewer than 1% of Wall Street analysts’ reports include a ‘sell’ rating? That means 99% are somewhere between a ‘hold’ and a ‘strong buy’. Would any rational person believe that 99% of stocks are a good buy? I think not.
Why you can’t trust Wall Street
This point was clearly demonstrated in an article in Smart Money called, Analyse This: Why You Can’t Trust Wall Street’s Stock Research. Carolyn Trabuco, an internet company analyst, admitted she has “three hats to wear – research, banking and marketing”, and she attempts to serve them all equally.
But no one may serve two masters, let alone three! So how can an analyst give accurate, neutral and unbiased opinions? Well, they rarely do. You must understand that their primary loyalty is to their employers – the brokerage companies. So, analysts choose the companies they cover partly on the basis of whether those companies are running out of cash.
Attractive companies
Now you would think that running out of cash is a bad thing for a business. But in the crazy world of Wall Street, this makes the company more attractive. The less cash a company has, the more likely it is to need to raise more in the future. When that happens they will need a Wall Street investment bank. That’s right – with a ‘strong buy’ report, capital raising is much easier. And wouldn’t it be a coincidence if that company returns the favour by throwing a little investment banking business their way? It happens all the time. This disturbing pattern sacrifices the interests of retail clients. They then get a call from their broker and told: “Hey, our top-notch analyst was just on CNBC and she issued a ‘strong buy’ report on this wonderful company. Take our word for it – it’s a good investment. How many shares do you want of this ‘strong buy’ hot stock?”
The bottom line
Look at more than just an analyst’s report on a company. Do what I do – research the company and its performance. In other words, do Fundamental Analysis (out of favour until the crash in April 2000) to determine whether or not the company is a good investment. It’s like I always say, “When it comes to investing what counts is the Money and the Numbers.”
