Sell-Side Research: Three Modest Reforms

Abstract

Investment banks (‘sell-side’) spend several USD billion per annum globally creating equity research for investment clients (‘buy-side’). Sell-side firms, and credit research agencies, have the potential to play a significant and positive role in enhancing the quality of equity market analysis and awareness. In theory, these agencies are a hugely efficient centralised resource, motivated to gather and to share investment relevant information. Being associated with brokerages, sell-side researchers are motivated to be public, if not loud, about their opinions. Sell-side researchers have a large effect on market perceptions about particular stocks. One interpretation of a sell-side brokerage is that it is a research or publicity machine with a brokerage attached. In contrast, the buy-side is motivated to keep information secret. Theoretically, sell-side research contributes to market efficiency by aggregating divergent opinions in price setting. The sell-side provides shared learning about stock price formation that is widely available at low cost. This learning is based upon a statistical framework of quantitative income, cash flow, balance sheet and financial ratio modelling which has grown exponentially in technical sophistication over the past two decades. Tighter rules on parity of disclosure and instant electronic data communication have eliminated the low hanging fruit of old-fashioned insider dealing. Insider benefits exploited a quarter of a century ago are now rare. Managements spin and slant to push or pull analysts in their direction, but announcements, presentations, Q&A, conference calls, and investor ‘one-on-ones’ have developed from sporadic initiatives into standardised Investor Relations (IR).