Earlier this week, Goldman Sachs (GS) let 13 analysts go including their top financial services analyst and others from three different sectors of coverage; newspapers, alternative energy, and mattresses. Well, I guess that means that if you are lying on a bed reading a financial newspaper under an energy efficient lamp… you have problems.
The Wall Street analyst population continues to decline, not just rearrange as it has in the past. For months we have been discussing in various blog posts and articles the impact of the Spitzer-era mandates upon research departments at the major investment banks. This coupled with the economic collapse and failure of the broader investment banking models (Bear, Lehman, Merrill, etc.), has basically prevented any recovery or growth in the analyst arena. The reality is that the investment banks themselves are so broken throughout the various areas of their businesses, that even if they wanted to keep research alive, the cost and lack of revenue generating services is a boat anchor they can’t carry anymore.
Goldman denies that they will be exiting the analyst business stating:
“We would not be transferring analysts if we were exiting the business,” a Goldman spokesman, Ed Canaday, said, referring to how the bank plans to move some analysts around to fill the gaps in its coverage universe.
But the question of whether they are exiting the business or reducing it to an insignificant role is merely semantics. Some of our friends that are analysts at the majors have been quite clear in their desire to find other methods of putting their skills to work. Truth be told, none of these analysts enjoy the “earnings estimate” game that forces them every quarter to put out meaningless models and 30 page reports to an audience that all but ignores the written work. Not to mention the arcane usage of “Buy”, “Hold”, and “Sell” ratings (or any number of odd sounding variations thereof) which for years have been discounted by the institutional investment community as useless.
Generally, when we think of quality research, we tend to group it into two categories; The “why” category and the “when” category. Sure, it can be broken down further into genre’s, but in the end, those two headings really get to the heart of the matter.
Good “why” category research is what Wall Street used to be incredibly good at. Granted, before 1999 and the implementation of regulation FD, the Wall Street crowd was even better at it because they had access to company management that no one else did. But still, even after that wall was put in place, there have been plenty of analysts who really know their industries and companies well and have had a strong record of explaining thoughtfully and thoroughly the benefits of “why” an investor should invest in a given company. Unfortunately for many of these analysts, “why” doesn’t typically fit well with the “when” category of analysis, particularly with pressures from companies and investment banking management expecting larger numbers of “Buy” ratings on average. Even today, the percentage of “Buy” or positive rated companies is grossly larger than any rated negatively. And given the 40% decline in equity stock prices in the last quarter, you would think it wouldn’t be too much to ask to have a higher percentage of “sells” during the decline.
The other category of research, the “when” analysts, typically aren’t working for investment banks and have not done so for years. They are often found looking more into computer screens covered with quantitative metrics and data sets. In fact, from a time management perspective, the “when” crowd generally doesn’t think that hanging out with the management of public companies is conducive at all to successful stock selection and investment. Strong “when” analysts are really much more affiliated with investment management firms, proprietary trading desks, and independent research houses that could care less about what corporate management may think about their negative ratings on their respective stocks.
Generally, we tend to think that both categories of analysts, are very important, but they should be recognized for their differences. The “why” crowd has slowly been transforming on Wall Street for years. These are the last remnants of the psuedo-cheerleaders that famously pumped up the dot-com bubble and then ran for cover when it burst. They have since reformed their practice, but have only been rewarded with bitterly declining pay scales and an ever decreasing role in the world of banking. The younger employees and analysts at Ockham report that very few recent grads are dying to make it into the summer analyst program at Goldman, Citi (C), or any other investment banking firm. Looks like boot camp isn’t attracting as many boots these days.
As for the “when” analyst crowd, they too add value, but often lack the communication and table manners necessary to attract the type of investment dollars that power investment banks. So they have been locked up with their super-powered calculators and are rolled out from time to time, with a warning to keep shiny objects away from the glass while viewing.
All told, the analyst model, whether on Wall Street or off it, is evolving again. Not because research is unnecessary, or because investment managers can handle all of the analytical work themselves (just look at all manager returns this year to prove that.) It is evolving because the market is demanding a better solution. And while capitalism and free markets are being hunted into extinction throughout our economy today, it is good to know that they still run free over the research landscape.