Analysts in Asia So Far Miss Formal Review of Practices
By Phillip Day
Staff Reporter of The Wall Street Journal
SINGAPORE -- Wall Street analysts are defending themselves against accusations that they are little more than hucksters and hype-merchants for the companies they cover. But while the U.S. banking community is moving to tighten its own guidelines in the face of the criticism, few demands are being made for similar safeguards in Asia.
Investors should take note, since much of the research available in Asia doesn't even meet the standards now under fire in the U.S.
"There's a greater problem with analysts' conflict of interest in Asia than in the U.S.," says David Webb, a former investment banker who runs a Web site that advocates minority investor rights in Hong Kong.
In both the U.S. and in Asia, analysts are loath to upset companies that either do business with their investment banks or might give them business in the future. The profit on everyday brokerage and research business is peanuts compared with the money generated in fees on such deals.
Take the coverage of Pacific Century CyberWorks Ltd. in Hong Kong. Analysts were so consistently optimistic about this company that Dennis Fan, an associate professor in the Department of Finance of the Chinese University of Hong Kong, uses it as a case study in shoddy research. Most analysts began tempering their praise for Pacific Century only after its stock price had been falling for about a year, tumbling from a high of 28.50 Hong Kong dollars (US$3.65) in early 2000 to HK$2.27 at the end of trading on Wednesday.
As Mr. Webb points out, analysts may have been more concerned about what he estimates was US$500 million in fees Pacific Century generated for investment banks last year than in providing unbiased analysis.
Bankers' Suggestions
During the dot-com frenzy in the U.S., analysts were forced to come up with ever more fanciful explanations for why stocks weren't overpriced, while their corporate-finance colleagues collected the bounty from Silicon Valley's IPO mania. Now that the bubble has burst, those relationships are under increasing scrutiny.
The U.S. Congress began holding hearings on the issue this month, the Securities and Exchange Commission and the National Association of Securities Dealers are investigating and at least one inquiry into potential criminal charges is under way.
Just before the congressional hearings began, the Security Industry Association and 14 of the top U.S. investment banks announced that they had come up with a new list of best practices for research. Although their suggestions include calls to untie some of the links between research and corporate finance by, for example, making analysts' pay independent of fees from corporate finance, critics say all but the easiest guidelines are unlikely to be adopted soon.
One of the guidelines that is already being adopted by a few banks is designed to clear up the confusion over the wording of analysts' recommendations, which have evolved in recent years into a code that removes the need for analysts to ever say something bad about a company. Those banks have promised to limit their recommendation terminology to four or so words such as "buy," "sell," "hold" and "neutral" and mean what they say when they use them.
Watching the Wording
It isn't only the worry of being cut out of deals that keeps analysts from offending companies. Especially in Asia, analysts have to rely on corporate management for information about the companies that they cover. In the U.S., companies already issue a massive amount of data to the public, often on a quarterly basis, with warnings and updates issued as the situation changes.
"There isn't that culture of disclosure in Asia so analysts have to be careful," says Mr. Webb. "If you're nice to management, you'll get more information than is publicly available."
But in addition to cozying up to companies in order to generate business for their banks, analysts in Asia also have to be very careful about offending governments that generate fees through their bond issuance and set the rules for how banks operate.
One foreign banker tells of a recent trip that he was forced to make to apologize to officials at an Asian central bank after they threatened to retaliate against his bank for comments critical of their currency policies. "I had to swear it would never happen again," he says.
As bad as this sounds, not all analysts have to worry about corporate finance. There are some independent analysts and brokerage firms with no corporate-finance activities that can be counted on for a more unbiased picture, at least for now.
On Behalf of Independents
Kevin Scully, who runs the independent analysts' Web site Netresearch-Asia, worries that the current consolidation in the brokerage industry in Singapore will smother what is left of independent research in the city-state. He is calling for new legislation that would temper the bias of the research produced by analysts who work alongside corporate-finance teams. For example, Mr. Scully wants analysts to be forbidden from writing about companies during, and for six months after, any corporate-finance deal the bank does with the company.
He also says that analysts' pay shouldn't be linked to corporate-finance success and that corporate-finance departments should no longer be allowed to vet research reports, a fairly standard practice at many banks.
What can investors do? They can follow the lead of fund managers, most of whom use analysts' reports only as a source of hard numbers on which to base their own conclusions. If investors don't have the time or skills needed to reach their own conclusions, they should strongly consider leaving stock-picking to the professionals and invest their money in mutual funds.
Write to Phillip Day at phil.day@awsj.com |
