Wall Street tries to learn how to say ’sell’
NEW YORK: Sometimes Wall Street seems a bit like the U.S. humorist Garrison Keillors make-believe Lake Wobegon: Most stocks are above average, and it is always a good time tobuy.
At least that is the impression you might get from stock analysts who recommend where you should put your money. Even in bad times, Wall Streets army of analysts rarely shout “sell.” They rarely utter the S-word atall.
But Merrill Lynch, the largest U.S. brokerage firm, announced a system Tuesday for rating stocks that suggests Wall Street finally may be mustering its courage to say “sell” more often. Starting in June, Merrill will require its analysts to assign “underperform” ratings to one out of every five stocks they cover. About 12 percent fall into that categorynow.
It is a tectonic shift for Merrill, the so-called thundering herd whose insignia, a bull, symbolizes the natural exuberance of the marketplace.
The move underscores an industry-wide effort to inject a healthy dose of skepticism into stock research at a volatile and uncertain time for the markets, the broader U.S. economy and Wall Street banks themselves. Professional money managers and everyday investors alike are struggling to decide whether the recent rebound in the U.S. financial markets - the Standard Poors 500 index is up 10.6 percent since early March - will fade or turn out to be the start of a broad, sustainedrecovery.
But researchers are struggling to gain investors trust and safeguard their own jobs. Six years ago, big banks paid $1.4 billion to settle claims that analysts hyped stocks to win lucrative banking deals, but researchers as a group still seem reluctant to advise people to do anything but hold on to stocks or buy more ofthem.
Today, after the Nasdaq bust and the outbreak of the deepest U.S. financial crisis since the Great Depression, only about 5 percent of all stock recommendations by Wall Street advise investors to sell, according to Bloomberg. That is up from less than 2 percent back in the heady days of the dot-comboom.
James Melcher, a hedge fund manager, said the changes Merrill is making appeared to have “merit,” but he added that they were unlikely to eliminate Wall Streets tendency to be optimistic or resolve the inherent conflicts of interest in the investment banking business. “I dont think that is likely to change any more than you would expect human nature to change,” said Melcher, president of BalestraCapital.
Merrill Lynch, not surprisingly, disagrees with that view. Candace Browning, president of Merrill Lynch Global Research, says that her analysts work “serves an important function in the capital markets” and that the changes would make investing recommendations from the firm even moreuseful.
“What the new system basically does is it forces analysts to rank their stocks top to bottom,” shesaid.
The bank analyzed stock performance over a decade and determined that from 1997 through 2007, on average 37 percent of stocks in the MSCI world index and 40 percent of stocks in the Standard and Poors 500 index declined every year. The bank covers about 75 percent of the stocks in thoseindexes.
Under its new system, analysts cannot assign “buy” ratings to more than 70 percent of stocks they cover, “neutral” to more than 30 percent and “underperform” to less than 20 percent (an underperform rating suggests the analysts believes the stock will either fall within 12 months or will rise less than competing companies with higherratings).
But some in the financial industry say it may be too late for research departments at Merrill or other investment banks to reclaim the credibility and prestige they lost after the technology stock bust. Hedge funds, which account for up to 75 percent of trading on some markets, conduct much of their own research and often pay twice the going rate on Wall Street for analysts. Many banks, by contrast, have cut researchbudgets.
“If you are part of a mutual fund or hedge fund, you are integral to the business,” said Alan Johnson, managing director at Johnson Associates, a compensation consulting firm based in New York. “On Wall Street, it is not integral; it is just a costcenter.”
Scott Black, who was a senior Merrill executive in the 1970s and now runs his own investment firm in Boston, said that he was seeing a lot less research from the bank and that analysts were making fewer trips to see institutional clients in places likeBoston.
“All I can tell you is you dont see things in print and there is a lot less dissemination of research, not that we make as many demands,” said Black, who is president of DelphiManagement.
