What Are Wall Street Analysts Thinking?
Our Full Disclosure
First, I just want to say Happy Anniversary to the Cabot Market Letter, which is celebrating its 39th year in publication today! Don’t miss this weekend’s Cabot Wealth Advisory’s Q&A with its current editor, Michael Cintolo.
The Federal Trade Commission has just decreed that as of December 1, bloggers, Tweeters and other new media types will need to disclose if they are being paid or receiving some other type of consideration from the companies that make the products they recommend or chat up.
It's hard to quantify how many bloggers receive free products, but likely it is a lot, since they don't make much money from their writing and marketers have been aggressively pursuing bloggers in recent years as voices highly influential among their core readers.
This pay for play ranges from free supplies of products to actual cash payments for, say, "mommy bloggers" to tout a brand of diaper as being the best. The same goes for celebrities who now must make it clear if they have some financial relationship with a company when they brag about how well a brand name product worked for them on a talk show or their Facebook page.
And if any company or spokesperson claims health benefits from eating Twizzlers, the leaf of an oak tree or anything else, the safe harbor the FTC once allowed of simply saying "results not typical" is gone. They have to explicitly state what the typical results are, too.
Will those cloying Internet ads now read: "I lost 47 pounds! The average study group subject lost only 2?" I hope so. Or even better, maybe they will just go away.
Why has the FTC seen fit to revise its guidelines for the first time in 29 years? Because consumers like you and me are ad saturated and pretty savvy at sidestepping marketers' messages.
A good percentage of us fast forward through commercials and 92% of us don't click on Internet banner ads. Ad recall remains high for magazines and newspapers, but it's not news that fewer of us flip through print editions any more.
So increasingly, we rely on different voices we admire or trust, which nowadays are usually either entertainment celebrities or the often-anonymous blogger we follow.
More than anything we want authentic voices to help us make decisions--and marketers by definition are inauthentic voices whispering into the ear of authentic ones, and they are very often flashing cash, too.
Marketers want to create the illusion that we are listening to trustworthy voices, while in fact we aren't.
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This reminds me of another voice people often trust, but really shouldn't: Wall Street analysts.
A funny thing happened to one of the stocks in the Cabot Green Investor portfolio last month.
The stock is American Superconductor (AMSC), a designer of wind turbines that also sells the electrical components for its designs. American Superconductor also makes highly conductive electrical wire for utilities.
In late September, an analyst at Kaufman Brothers cut the stock from a rating of Buy to Hold. That sparked a wave of selling that pushed the stock from 37 to 30 in just four days. It also sparked a number of worried emails from subscribers, who are free to email me with questions anytime, wondering whether we should take profits (we bought shares in May at 25).
I told them to hold tight, since our technical analysis predicted AMSC shares would hold fast at $30. I was confident too given the fact that AMSC has been executing superbly of late: It posted its first profitable quarters ever earlier this year, the company just signed a $100 million deal to supply China's largest wind turbine maker with designs and components for 3 megawatt turbines, and over the summer, Korean utilities inked deals to use over 60 miles of its superconductive wire.
Shares held support as our analysis predicted. Then remarkably, just six days after the downgrade, that same analyst shifted the rating on AMSC back to Buy.
I don't want to take the specific analyst too hard to task (because, for one, I haven't analyzed the reports), but it's a reminder that individual investors who follow brokerage recommendations are playing catch up in a complex game being played by institutions.
Brokerage recommendations usually get to institutional clients and in-house trading desks first, sometimes contradicting the publicly known rating (we learned last month this has been done with apparent regularity by Goldman Sachs). Even the rating itself can be meant to deceive.
As an informative book by a former Merrill Lynch analyst Stephen T. McClellan titled "Full of Bull" says: "Analysts use lower-level ratings, such as Accumulate, Above Average, Hold, Neutral and sometimes even Buy (if the firm has a superior Strong Buy in its system), as rubrics to convey a negative stance to their key client base, institutional investors. They avoid the more pessimistic classification levels such as Below Average, Underweight, Underperform or Sell, in order to dodge the flak of corporate executives and institutional investors who own big positions in the stock."
What's more, as McClellan points out and as I learned as a reporter at Forbes, ratings are often formed by other considerations, too.
Perhaps the brokerage hopes to gain underwriting business from the subject companies so they push analysts to give better ratings. Or perhaps the brokerage lost out on business and so it wants the company to pay a price.
And maybe, as we saw during the dotcom boom, analysts realize being bullish even if they don't believe it gets rewarded with massive bonuses. Regardless of the motivations, the last person those ratings are meant to help is you, the individual investor.
As for AMSC, I still believe the stock is a buy over 30. Fundamentally the company is performing without a misstep, while a massive percentage of short sales in the float has set the stage for an explosive short-covering rally.
Plus, the overall alternative energy sector is in full bull market mode according to our indicators, and it's hard for bears to swim against the tide of bullishness that we see.
The Cabot Green Investor portfolio has a 25% profit in AMSC to date, placing it in the middle of the pack return-wise of the seven stocks we now hold--all are profitable--led by Maxwell Technologies, which we enjoy an 80% return on since May. That's still a buy, too.
Now I know you're thinking: "What's MY motivation here?" Well, with this Cabot Wealth Advisory my aim is to inform and entertain. It's also, in my position as analyst and editor, to convince you to try Cabot Green Investor. It's an excellent time to do so, since we're in a bull market and we just launched a special introductory rate for new subscribers for the first time in our newsletter's history.
More broadly, we at Cabot take pride in our independence and commitment to serve only our subscribers. We don't accept any consideration from companies we may write about, like some financial bloggers have been known to do.
We don't write for the benefit of institutional investors (although some brokers subscribe to our newsletters). We do well when you do well, it's just that simple.
But, in the interest of full disclosure, I did request a review copy of McClellan's book from the publisher, FT Press. I'll admit it, the reader in me always likes getting books.
For Cabot Wealth Advisory