EDITORIAL: 'No comment' won't suffice for analysts

As if analysts' reputations haven't taken a sufficient beating recently, New York's attorney general Eliot Spitzer is handing them a very public thrashing as he seeks to unmask the inherent conflict of interest in having research houses controlled by investment banks - a crusade with the nice kicker of raising the ambitious Spitzer's political profile.

As if analysts' reputations haven't taken a sufficient beating recently, New York's attorney general Eliot Spitzer is handing them a very public thrashing as he seeks to unmask the inherent conflict of interest in having research houses controlled by investment banks - a crusade with the nice kicker of raising the ambitious Spitzer's political profile.

Spitzer and his troops have published a series of e-mails - humorous as long as you didn't lose vast sums of money on the stocks in question - showing that analysts' private opinions of companies varied from those expressed in their research reports. A Merrill Lynch analyst, for example, privately called Lifeminders a "piece of shit,"while publicly giving the stock a buy rating. The suggestion - hardly a new one - is that Merrill gave optimistic analyst reports in hopes of winning investment banking business.

It's not just Merrill coming under fire - though the US' largest brokerage was first to be singled out - as Spitzer has widened his naming and shaming drive to include eight of the biggest investment banks, potentially tarnishing such gold-standard reputations as those of Goldman Sachs and Lehman Brothers.

And, just as Enron has led to a boom in stories on accounting practices, Spitzer's crusade has piqued the media's interest in stories that demonstrate supposedly unethical analyst behavior. For example, The Wall Street Journal gave big play last week to Antigenics, a biotech firm that is accusing Bancorp Piper Jaffray of halting coverage of its stock - which it had rated a strong buy - because Antigenics chose a rival bank to handle a public offering.

This is a huge crisis. It has already damaged the reputations of the banks involved and some of their stock prices, Merrill's in particular.

(Proving again what PR sages already knew - that marketing can't compensate for business practices that undermine stakeholder confidence.) It is also damaging for the market as a whole, shaking private investors' faith at a time when many already wonder whether stocks were their best savings option.

But the response from the banks, and Wall Street institutions in general, has been muted. In part this is because, as so often in crises, the lawyers are surely demanding silence. Any admission of guilt or the need to change practices could aid the cases of investors looking to sue the banks for misleading them. In addition, the banks' leaders won't want to jeopardize the chance of arriving at a compromise settlement with Spitzer, who is wielding the threat of separating banking and research.

But political and legal minefields notwithstanding, the banks still must act to change their practices - surely they must agree analysts should not own stocks on which they report - and find a strong, unified voice to communicate their case.

While they need to state clearly their determination to root out wrongdoing, and show how they are going to do that - after all it is their reputations at stake here - they must ensure everyone understands that their research operations could not survive separation from their banking operations as they are not profit centers. In fact, anything that raises the cost of housing a research operation, or exposes these operations to the risk of more litigation, will likely lead to less, poorer-quality analysis.

Refusing to comment on Spitzer's allegations is understandable, but sooner or later these banks will have to make their case. Investor confidence will not be won back around the negotiating table.

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