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Off the record

By Fiona Rotherham

Thursday 9th June 2005

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Reading a recent Fortune magazine article on potential trouble ahead for US stocks in 2005, I was struck by the number of analysts of major broking firms willing to stick their necks out and recommend investors buy certain stocks and avoid others. It wasn't so much what they were saying, as the fact they were on the record saying it at all.

New Zealand analysts seldom say anything on the record, preferring the views they express to the media - if they'll provide them at all - to remain under the cloak of anonymity. Unlimited has run a couple of stories lately on major listed companies in which we've cited the views of such unnamed sources. From our point of view such comments inevitably carry less credibility than those expressed by people willing to publicly defend their opinions. However, we've published the opinions after judging the analysts concerned were well-informed on these companies, and that unsourced commentary is better than none.

But doesn't the investing public deserve better? Transparency is a vital prerequisite for the efficient and fair functioning of the sharemarket. Isn't that what the continuous disclosure regime is all about? And don't all those who have a role to play in facilitating a healthy sharemarket - and that includes analysts and brokers - have an obligation to operate in an open and candid manner?

But perhaps I'm being naïve. I spoke with one former analyst (who wasn't willing to reveal his name) who reckons you won't hear a negative comment on the record from analysts about listed companies because they fear having their lines of communication cut off as a consequence. Company executives, aware of their power over broking houses, quickly show their disapproval of those who utter negative views. He claims one CEO even tried to get him fired because of disparaging comments he'd made about a particular well-known company. And he says some companies won't do road shows with analysts who don't have a buy recommendation on their stock. One of the value-adds a broker can give big institutional clients is an audience with the management of listed companies, so withdrawing contact is a highly effective way for a company to express its disapproval.

But why don't analysts say positive things on the record either? The compliance-orientated US-owned broking firms are extremely careful about the terminology they use so they're not seen to be ramping up a stock. They avoid inflammatory language and betting terminology. The local branches figure it's easier and safer to simply say zip.

So, thanks to pressure from our listed companies and an over-cautious approach, most broking firms will make their views public only via their own highly sanitised and carefully worded investment reports for clients.

All this is compounded by the dearth of independent media commentators with genuine market nous - Brian Gaynor in the Business Herald being one of the few exceptions. Gaynor (a former analyst) says analysts have not always been so reticent, but the new breed seems to be fairly mild-mannered and anxious to keep a low profile, unlike their more open counterparts in the US and Australia.

Mind you, what brokers do say has come under suspicion too. Back in 2000 Unlimited revealed that of the 234 broker stock recommendations made by six top broking firms in the April to June quarter that year, only four (less than 2%) were sells. Another 10 were 'reduce' or the more subtle 'underperform' calls, taking the total negative sentiment in the market to 6%. Buy calls totalled 124 (53%) and holds 97 (41%). As we said then, it doesn't take a financial genius to work out these sorts of percentages are not an accurate reflection of the market. And there's nothing to suggest this practice has changed. Fund managers say they're cynical about brokers' recommendations and use their own research people to flag problem companies. But the general investing public doesn't have the same luxury.

The Americans haven't always been so transparent. Confidence in the US market collapsed a couple of years back because of conflicts of interest. Stock analysts were regularly touting stocks issued by favoured corporate clients of the investment firms they worked for. Following intervention by securities regulators, American investors have the option of 'independent' research from analysts with no ties to investment banking or brokerage. They can expect a relatively honest opinion as opposed to one off the record.

Local shareholder activist Bruce Sheppard reckons the best thing Kiwi investors can do is their own homework on the stocks they buy (read his simple recipe for investing on pg 87), but few bother. Investors will always be influenced by the comments of analysts and brokers - which is all the more reason why these parties should be willing to publicly stand by their views.

At a time when relatively unsophisticated Mum and Dad investors are being actively enticed back into the sharemarket, it's more important than ever that the principle of disclosure and transparency is embraced by all market participants. A market operated by people who are afraid of the consequences of expressing an honestly held and well-researched opinion is a market that, ultimately, will falter.

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