Ideally, Wall Street research analysts, like Caesar’s wife, should be above suspicion.
By Michael Carroll
April 2001
Institutional Investor Magazine
Ideally, Wall Street research analysts, like Caesar’s wife, should be above suspicion. In fact, their lives are more like a Caesar salad, a pungent mix of conflicting pressures , from corporate clients and big investors alike.
In recent months, as stocks plunged while analysts maintained strong buy ratings, the analysts have come under increased scrutiny. In this month’s cover story, Staff Writer Justin Schack takes a look at an area of conflict that has been all but overlooked , analysts’ share ownership. In “Should Analysts Own Stocks They Cover?,” beginning on page 60, Schack examines the cases of several researchers who owned significant holdings in companies they rated buys (one had a stake worth nearly $10 million in a single stock), and reviews the arguments for and against such ownership. On Wall Street it is common for researchers to own shares of companies they issue reports on , including pre-IPO stakes. And although brokerage firms have rules restricting analysts’ ability to trade these shares, disclosure is minimal. Just three firms specify for investors which analysts own which shares, and none reveal how large the positions are.
It’s an issue that deserves more sunlight , and transparency. That may be coming. A congressional subcommittee chaired by Representative Richard Baker, a Republican from Louisiana, is expected to launch hearings, possibly as early as next month, on analyst conflicts.
“Some argue that ownership doesn’t pose an ethical conflict. If that’s the case, it should be more fully and prominently disclosed so the investors can better decide for themselves,” says Schack, who invests only in mutual funds. (Under Institutional Investor policies, writers do not invest in companies they cover.)
Just in time for April 15, Senior Editor Hal Lux takes a look at a bit of financial wizardry that some hedge funds are employing, in “The Great Hedge Fund Reinsurance Tax Game,” beginning on page 52. Partly to lower their investors’ tax bills, the notoriously tax-inefficient hedge funds open reinsurance companies in Bermuda, which has no corporate tax. Instead of investing directly in the hedge funds, investors buy the stock of the reinsurers, which plow a chunk of their assets back into the hedge funds. Eventually, the investors are expected to sell their shares, paying capital gains taxes rather than ordinary income taxes.
In that way, U.S. citizens can render less unto Caesar.
