Mark Hynes - thoughts on corporate disclosure

Opinions on changing rules, changing best practices, and their effect on investor relations officers.

Tuesday, July 18, 2006

Death of traditional soft dollaring? 2 new initiatives making an impact.

There are many reports of the death of sell side research. However 2 initiatives, one recent and one making progress, suggest that this is, like Mark Twain’s, “greatly exaggerated”.

Firstly, in a changed model and aiming to win more customers, Lehman Brothers has asked some analysts to stop writing and distributing research reports, and focus on discussing stock picks and strategies directly with select clients such as hedge funds and the brokerage firm's traders. This is being watched by other Wall Street firms, many of which are grappling with ways to make their stock research more effective -- and more profitable.

This decision comes amid intense discussion on Wall Street about the future of equity research. New regulations came in 2003 from regulators concerned that firms were publishing optimistic research in a bid to win more lucrative investment-banking business. This has limited how firms pay their analysts and created a new bureaucracy of compliance and disclosure.

In consequence, research staffs have shrunk and many analysts have moved to hedge funds and mutual funds, where the compliance is less. The number of research analysts on Wall Street has dropped almost 30% since 2001 to 995 at the end of 2005, according to the National Research Exchange. Earlier this year, Morgan Stanley cut about 7% of its equity research positions in the U.S. and Europe.

However, Morgan Stanley also said it will curtail some less essential research and emphasize higher-value reports. Which leads therefore to the impact of the second initiative from the Independent Research Network, an independent company formed in mid last year by Nasdaq and Reuters to help under-covered companies obtain analyst coverage. Its objective is to facilitate equity research coverage for under-covered companies, promoting a greater knowledge of the investment community's understanding of a company's fundamental prospects.

IRN announced last month several milestones in the growth and development of its business, including signing contracts with 30 research providers and the signing of IRN's first client contract.

According to IRN, approximately 33% of all US public companies with analyst coverage have two or fewer analysts covering them and approximately 42% of all public companies have no analyst coverage, and according to Reuters Estimates, since January 2002, 703 companies have lost analyst coverage representing over 18% of the entire universe of public companies with analyst coverage.

What the impact of these 2 initiatives on the traditional model of soft dollared research will be, we can only wait and see. What it clearly DOES mean, is that IRO’s need to look ever more widely for potential coverage and communication channels
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