By DAVID MOON, Moon Capital
January 13, 2002
Thanks to detailed planning and excellent information, Knoxville managed to
survive the Blizzard of 2002. Although schools were dismissed for only a
day, some businesses struggled through an entire weekend of ice and snow-bound
terror. The local TV stations dispatched top journalists, meteorologists
and satellite trucks to provide up-to-the-minute reports on local driving
conditions. I saw one daring newsperson, braving 25 degree temperatures
and two mile per hour winds, standing next to a dry roadway that was free of ice
and snow. He was quick to point out, however, that just a few feet from
the road was a completely snow packed and dangerous sidewalk. Fortunately,
with his warning, motorists avoided driving on the sidewalk.
Am I being tough to critical? Imagine being a meteorologist in
Brazil. On Wednesday, Rio de Janeiro mayor, Cesar Maya, asked the city's
chief prosecutor to file charges against meteorologist Luiz Carlos Austin for an
incorrect New Years Eve weather forecast. Maya's offense was to predict
continued rain, following a weeklong torrential (and deadly) downpour.
After 71 people died in the previous week's flood, local officials feared
another forecast for continued rain would create panic in the city. When
it didn't rain, the mayor jumped to action. The meteorologist, a 35-year
weather forecasting veteran, could spend up to six months in prison.
Imagine if we moved Wall Street from New York to Rio. Might the quality
of some analyst reports improve with the threat of a stick and not just the
promise of a carrot? Consider the Enron debacle. On November 2,
Standard and Poor's described Enron's investment grade bond rating as
"solid." They recommended investors "hold" the stock. On November
15, UBS Warburg rated Enron a "Strong Buy." Bank of America Securities
called Enron a "Market Performer." On November 21, Goldman Sachs rated
Enron "Market Perform." As late as November 23, CS First Boston described Enron
shares as undervalued, rating the shares a "Strong Buy" and setting a 12-month
price target of $25.
A week later, Enron filed for bankruptcy.
Of course, there are plenty of profitable analyst recommendations. The
challenge is that there is little way to tell the difference until after the
fact. The problems with the entire industry, however, are several:
1) Most Wall Street firms have lucrative business arrangements (or seek
them) with the companies about which they purport to write unbiased research
reports. How can an analyst write an honest commentary about a company to
which she would like to sell her companies other services? It is very
difficult to criticize your customer or prospective customer.
2) Wall Street lingo is confusing, at best. At worst, it is
intentionally misleading. In a world where 'buy' means 'hold,' and 'hold'
means 'sell,' who knows what 'aggressive hold' means?
3) Analysts are encouraged, either implicitly or explicitly, to make
recommendations similar to other analysts. How can you be punished for
being wrong if everyone was wrong? ('So? All the other weather men said it
was going to rain, too.')
4) The system of making recommendations without investing real money
encourages analysts to swing for the fences. There is an old joke about
the difference between being interested in something and really invested in
it. A chicken is interested in breakfast. A pig is invested in
it. Analysts ought to be invested in the stocks they
David Moon is president of Moon Capital Management, a
Knoxville-based investment management firm. This article
originally appeared in the News Sentinel (Knoxville, TN).