Saturday, February 9, 2013

The Prescient Call: Apple

The Prescient Call: Apple

James Stewart, who writes the Common Sense column[1] for the New York Times explores the propensity of Wall Street analysts to adopt a herd mentality when it comes to their stock recommendations.  Mr. Stewart uses Apple as his case study of the tendency of Wall Street to pile up buy recommendations on a stock.  He points out that the reforms championed by then-Attorney General Eliot Spitzer, and incorporated into Sarbanes-Oxley have done little to improve the accuracy of Wall Street research.  Mr. Spitzer’s reforms separated Wall Street analysts from their firm’s investment banking operations in order to eliminate the most blatant conflicts of interest.

Portfolio Company Review (2009)

Mr. Stewart notes that many conflicts remain, and that the business of making stock recommendations is about pushing product and generating commissions.  He also cites the career risk to an analyst of putting out sell recommendations, especially when a stock has “momentum.”  It’s hard to quarrel with any of these conclusions.  Moreover, there’s nothing new about the mediocre record of Wall Street analysts.  Since money managers can’t beat the market, who can expect analysts to do any better?

One aspect of Mr. Stewart’s column bothers me.  He highlights Carlo R. Besenius, the founder and chief executive of Creative Global Investments, who put out a sell recommendation on Apple. Mr. Stewart sees this decision as meaningful departure from the Wall Street herd.  He cites the independence of Creative Global Investments as a reason why Mr. Besenius was able to make his prescient call on Apple.  He even allows Mr. Besenius to tout the superiority of his firm.  However, Mr. Stewart doesn’t provide us with any evidence of Mr. Besenius’ overall prowess as a stock picker.  All we know is that he made a good call on Apple.

This is a classic investment mistake.  Inevitably when a stock falls or the market drops, there’s one person who made the correct call.  We turn that person into a hero.  In fact, that person was no more than lucky.  Moreover, I don’t think there’s any evidence that independent firms do a better job than Wall Street research departments in making stock recommendations.  

Mr. Stewart quotes Professor Stuart Gibson of the Harvard Business School for the proposition that it makes business sense to make buy rather than sell recommendations because anyone can buy a stock, but only current owners can sell.   This is true, and helps to drive the economics of Wall Street research.  Mr. Stewart suggests that this “may be especially true for heavily traded stocks like Apple, which generate huge commissions for Wall Street.”  Actually Apple is one stock where a sell recommendation made perfect commercial sense, as it is among the most widely held by money managers.  In fact, as Apple’ stock approached $700 per share, the universe of momentum investors willing to chase the stock was probably exhausted.

The story of Apple’s stock is just one more chapter in a long history of unreliable stock recommendations.  You can read Wall Street research to gain some background on an industry or a company.  You can even read it for entertainment.  However, you shouldn’t be relying on its recommendations.



  1. Has anyone created a reliable scorecard that tracks analysts' performance and compares them to their peers? If not, might such a scorecard help give them an incentive to be more accurate about their recommendations?

  2. Rich
    The short answer is no. Internally most firms keep track of their analysts' picks, but those records are aren't published and the methodologies vary. The internal records are part of the bonus calculation. I need to do a post at some point about the games analysts play in order to dress up their records. Since they're not actually investing capital, they can time buy and sell recommendations in ways that wouldn't work with real money

  3. Seems to me like it should be relatively easy to set up. It's all public information and recommendations are inherently measurable. Some standard methodology would need to be created but shouldn't smart minds at a consulting firm looking for PR, a ratings agency, a business school or a media outlet be able to figure out some reasonable system?