A dissection of equity research rankings
Imagine being an entomologist, faced with around 1 mn known species of insect, and another 9 mn or so waiting to be discovered. It's estimated that ants alone make up 10 percent of our planet's animal biomass. Luckily there's a system of taxonomy to help keep all those bugs straight.
Now imagine being an investor relations officer, faced with swarms of analysts and fund managers that seem to multiply all the time and whose animal biomass is only held in check by daily trips to the gym. Indeed the last several years have seen a huge increase in the number of investment professionals, while competition and consolidation mean analysts and fund managers hop from firm to firm. How can you keep track of them all? Or, perhaps more importantly, which ones are worth going after with your IR butterfly net? One way to maximize both your and your management's time is to identify the most influential analysts and brokerage research teams and target them first. 'These are the opinion leaders, an IRO's prime contacts,' remarks Laurie Meisler of TheStreet.com.
There are plenty of equity research rankings to choose from, including the oldest and most widely known survey by Institutional Investor magazine. Then there's a brand new – and apparently improved – survey of the US market by II's former survey team (headed up by Meisler) at TheStreet.com. The Wall Street Journal raised the stakes in 2000, teaming up with First Call/Thomson Financial for its eighth annual analyst survey. Challenging Institutional Investor on the global stage is the Reuters Survey from Tempest Consultants, while the pan-European market leader is the Primark Extel Survey. BulldogResearch.com is another new player in the US, offering daily updated rankings based on I/B/E/S estimates. North of the border, Canada is home to the respected survey conducted by Brendan Wood International.
These various rankings, all sliced and diced according to industry sector and geography, fall into two main camps: Most are qualitative, based on questionnaires sent to fund managers and sometimes companies as well as brokerages themselves. A handful – the Journal and BulldogResearch.com – take a purely quantitative approach and analyze the earnings estimates and stock picks of analysts. TheStreet.com's new survey is a mix of the two methods.
Of course IROs are not the main audience for such rankings. As described by Steve Kelly, head of the Primark Extel Survey, users fall into five categories with the largest being the sell side itself, followed by fund managers, corporates, media and headhunters. Public companies use the data to help select investment banks for corporate finance business as well for investor relations targeting, he adds.
After heading up Institutional Investor's rankings for 18 years and adding Europe, Latin America, Asia, bonds and a global category to II's roster of surveys, rankings editor Laurie Meisler came to TheStreet.com last year with her entire five-person team and the goal of improving on the II method. The new survey launched in June is 'the best of both worlds', she says, incorporating the qualitative aspects of II's survey with the number-crunching of the Journal. First TheStreet.com asked top institutional investors to name the best analysts, then, using I/B/E/S data, every analyst who got at least one vote was ranked according to their stock-picking abilities. The results are available free on TheStreet.com, with a new industry-specific spotlight every week, and everything is to be compiled in a book. Still more detail will be included in TheStreet.com's impending professional investor site.
Institutional Investor is ploughing on without Meisler, but it declined to comment for this article. In its 28-year history, the II survey grew to wield tremendous influence over analysts' pay checks. Stars of II's All-America research team are paid seven or eight figures and are keenly poached by competing firms. Problem is, says Meisler, analysts learned to 'game' the survey. 'They knew when the ballots were going out, they knew the universe of voters, and they would time their visits and reports accordingly,' she describes. 'They would shamelessly beg for votes.' TheStreet.com is hoping to avoid this by varying the survey's timing and using stock-picking data as an extra safeguard.
The Wall Street Journal discarded Zacks and teamed up with First Call/Thomson Financial for its 2000 Best on the Street Analysts, though it kept a by-the-numbers approach. 'Unlike other analyst surveys, it is purely based on the numbers and recommendations,' says public relations manager Faye Fardshisheh, adding this makes the Journal's rankings 'a lot more objective.'
First Call introduced improvements such as a broader survey sample, an analysis of daily data instead of monthly, a five-tiered stock recommendation scale instead of two, and a way of tracking analysts who move jobs. Despite these changes, Fardshisheh notes, the top three firms are the same as last year: Merrill Lynch, Goldman Sachs and Salomon Smith Barney. She observes that many companies are eager to know their sector's best analysts beyond the top five, but that information isn't available. In addition to the Journal ranking, First Call issues a quarterly readership ranking that shows which analysts are the most read among institutional customers.
Problem is analysts learned to 'game' the survey. 'They knew when the ballots were going out, they knew the universe of voters, and they would time there visits accordingly. they would shamelessly beg for voters'.
Winning an obelisk
An Extel award has long been a coveted distinction in the City of London, and with the acquisition of Extel by Primark in 1999, the Primark Extel Survey went pan-European and started presenting winners with the Primark Obelisk. Where to next? Survey head Kelly says they're 'keen to look at geographical opportunities.' With Primark, which owns I/B/E/S, in the process of being acquired by Thomson Financial, it seems likely the survey will go global to compete with II's and Tempest's surveys, perhaps incorporating quantitative data from Thomson Financial.
For 2000 the results are available exclusively on the web, with free headlines and various prices for in-depth data, making for flexibility in tailoring the numbers as well as cost. A new twist in this year's Extel survey was to ask fund managers not only who's best in a sector, but which stocks they're particularly strong at. That means you can search by stock – whether its yours or a peer's – to find the star researchers. Also new this year is a ranking of fund managers by both company finance directors and analysts.
Kelly defends the qualitative approach of the Primark Extel Survey, noting, 'Fund managers don't rate analysts on their stock picking ability, but on their ability to understand the market and the industry, to work out the trends, and to actually add value to the fund manager's own knowledge.' He adds that while a decline in the importance of sell-side research has been much mooted, there's little practical evidence of it. 'There's much more direct contact between companies and the buy side than there used to be, but that doesn't mean the influence of the sell side is diminished.'
Though a fairly recent entrant to the survey game, Tempest Consultants has rapidly developed the Reuters Surveys. They began in 1995 in the UK, tackled emerging markets in 1996 and moved to the US in 1997. For the UK, Europe and the US, separate studies are published for larger and smaller companies, while surveys for Australia/New Zealand, Hong Kong/China and Canada have also been added to the mix. Now, with Japan in 2000 completing Tempest's world conquest, the plan is to produce global research rankings. Tempest sells its survey books for Â£250 or $400 each, and is launching TempestDirect on FT.com. It's also working on a software product for companies, probably with targeting and contact management tools.
Robert Kandel, a director at Tempest Consultants, says they were the first to weight results so brokers 'can interpret fund manager votes in a way that correlates with their commission analysis, from their bigger clients down to smaller ones. We were also the first to go to the three points of the triangle: the corporates at the top, the buy side and the sell side.' Dubbing this 'the equity triangle', Tempest's mission is to help keep the corners in equilibrium.
In its latest survey issued in July, Tempest finds the triangle badly out of whack for US mid to smaller companies. There's been a major shift of sell-side analysts toward 'glamour sectors', with over 40 percent of companies feeling under-researched. And while there's been a strengthening of relationships between corporations and the buy side, the sell side and the buy side disagree on the issue of broker priorities when serving institutions.
Kandel doesn't rule out the future use of stock-picking data to supplement Tempest's equity research rankings, but he insists it's almost irrelevant. 'Most fund managers I talk to couldn't give a monkey's about stock-picking recommendations. It's more research excellence they're looking for.' That statement should be balm to IROs weary of the quarterly earnings derby, and encouragement to target analysts who truly have the ear of institutions, not just a lucky record.