Regulation FD levels playing field for all investors

By DAVID MOON, Moon Capital Management
June 10, 2001

Imagine you are one of several owners of a business. You are not involved in the actual management of the business, as you have hired others to run the day-to-day operations. How would you react if your managers wanted to more freely disclose information about your business to some of the other owners? What if the managers were more willing to disclose information about your business to non-owners? Then imagine if your mangers and the recipients of this preferential information disclosure complained about a legal requirement that all shareholders receive the same information about their business. This is exactly what is happening in the securities industry today.

Most research analysts at large brokerage firms are not analysts at all; they are salesmen. Part of their job is to support the transactional business of the retail stockbroker. But the vast majority of their job and compensation is the result of the new investment banking clients they attract to their firms.

Last year, the Securities Exchange Commission passed Regulation FD ' Fair Disclosure. The aim of Regulation FD is to prevent publicly traded companies from selectively disclosing financial information to the analysts/investment bankers who cover their stock. Brokerage analyst reports are typically little more than publicity pieces for the stocks they cover. Why would a company consider hiring a brokerage firm for an investment banking job if that firm's research department produced negative research reports about the company?

The relationships between the analysts and the companies they research are warm and cozy; so is the flow of information. Analysts produce research reports forecasting earnings, even though these forecasts are little more than a repackaged, regurgitation of the 'guidance' provided by the companies the reports purport to analyze. At least this was the case until the passage of Regulation FD. Now companies are prevented from selectively disclosing information; analysts get their information at the same time as does the general public. There are no more 'whisper numbers' or heavy guidance on future earnings by the companies. Theoretically, the value of a good analyst should increase, since actual research is required by the research analyst.

But who is complaining about Regulation FD? Wall Street analysts and corporate executives. A recent Security Industry Association survey indicates 69 percent of brokerage firm analysts complain that regulation FD has negatively impacted the quality of their reports. The Wall Street Journal says that 'Regulation Fair Disclosure has been anything but fair for Wall Street analysts.'

Who cares about fairness to the analysts? What about fairness to the people who own these companies ' the shareholders? These analysts and company executives are complaining that their jobs are now more difficult. American Institute fellow, James K. Glassman, argued that the rule denies investors 'the benefit of free-market competition.' How? AIM Management analyst, Gabriel Birdsall, however, sees the situation correctly. He says, 'All FD does is level the playing field because we all have access to basic corporate data. It hasn't hurt smart analysts at all.'

Regulation FD requires companies to disclose material, non-public information simultaneously to all investors, rather than first selectively sharing it. Trust is the cornerstone on which the entire financial industry is built. Investors trust that the little pieces of paper they receive each month from their broker actually represent ownership in specific companies. Brokers trust that investors will honor transactions to which they have committed. And all investors trust that the playing field is level and everyone is working with access to the same information. Regulation FD helps ensure this.

David Moon is president of Moon Capital Management, a Knoxville-based investment management firm. This article originally appeared in the News Sentinel (Knoxville, TN).

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