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The famous Chinese walls inside banks should protect the leak of classified information between investors on one side and analysts on the other.
But beyond such a virtual wall, one could ask oneself whether there is big difference between the analyst and the investor.

Both manage a portfolio for example. The investor owns a real portfolio which’ performance is measured against a benchmark or a market index.
In most cases companies, financial institutions included, use some kind of performance management method to analyze the performance of the employee. Also the financial investors’ performance can be measured by means of a few indicators.

A financial analyst owns a portfolio of companies for which he issues a rating and a target price. The performance indicators can than be setup in a way similar to the investor where the issued target price and rating is compared with the market (stock) index. If the analyst issues a sell and the stock performance develops worst than the stock index, the issue was a hit, of the stock price would perform better than the market, the analyst’ issue would have been wrong. As the average analyst may have about 15 stocks to rate the performance of each in this portfolio can be measured by the issues and ratings compared to the market development. In this way the overall performance is the performance of the analyst portfolio.

This performance measurement mechanism is exactly the same as the investor.

But there are more similarities. The investor should decide to buy and sell stocks (let’s forget other instruments) and the analyst must issue buy and sell advices.

In a recent example, I traced two stock-reports and their issued ratings. The stock (AKZO and DSM) both belong to the portfolio of the same analyst and to the same sector.

In this particular case, the analyst had issued:

A BUY on December 2007 at a price of the stock of 52 and a target of 60. (AKZO)
A BUY on February 2008 at a price of the stock of 33 and a target of 40. (DSM)

Now what happened in between in the stock-market you might ask?
The first stock (AKZO) initially outperformed the market, but changed to a recent underperformance. The stock now quotes at under 50.
DSM on the other hand, also outperformed the market and continued to do so. Until today, where the same analyst reported “to take profit.”
The stock today falls about 5%, right under 40 euros.

Interesting about this is that it was the analyst that “took profit.” But (to my opinion) for the wrong stock. Instead of downgrading the AKZO advice to neutral, the analyst preferred to take a profit on his own performance management indicator. He wins on one stock (realized performance) but holds another in portfolio which is at loss.

Experienced investors would have done it the other way around. Cut your losses before taking profits. A lesson the analyst still has to learn.

H.J.B.

© Hans Bool

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