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<nettime> spitzer deconstructs investor award dinner
t byfield on Sat, 28 Dec 2002 19:30:02 +0100 (CET)

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<nettime> spitzer deconstructs investor award dinner

   [andrew orlowski at _the register_ pointed this out to me, a speech 
    given by new york state attorney general spitzer -- as orlowski puts 
    it, a 'pugilist populist attorney straight from central casting' -- 
    on 12 nov at an institutional investor award dinner. 'Spitzer pointed 
    out that the performance of Wall Street's "all-stars" he was addres-
    sing compared unfavorably with that of the proverbial chimp.' see his 
    writeup here: <http://www.theregister.co.uk/content/7/28661.html>.
    below is the text of spitzer's speech. cheers, t]


    Ensuring The Integrity Of Electronic Commerce

              Institutional Investor Dinner, November 12, 2002

   Thank you for that introduction. I'm sorry that I am speaking so late
   in the evening . . .

   I am grateful for the opportunity to be here tonight. My continuing
   dialogue with the investment community is important. It allows me to
   learn what you are thinking, and provides me with the opportunity to
   explain our continued efforts to reform and bring transparency to the

   I also hope that my being here tonight conveys to you that although I
   am a critic of certain industry practices, I am not a critic of the
   analyst profession.

   Tonight's program is devoted to the celebration of individual
   achievement. At the same time, we must also recognize that there has
   been industry-wide failure.

   For at least the last several years, analysts have labored in a
   corporate structure that placed undue or improper pressure on them.
   Too often, they were asked to tailor their investment advice to
   further investment banking interests, even if that was in conflict
   with their obligation to provide honest, objective advice.

   The revelations of these past few months have shown how certain
   analysts succumbed to that pressure. The public's attention has been
   drawn to several particularly gripping examples of the conflict -- of
   analysts who privately derided as dogs -- and worse -- stocks that
   they were touting to the public.

   We are now also all aware that the structural problems ran much deeper
   than that. Because analyst compensation was tied to the ability to
   assist in or generate investment banking business, there was a strong
   incentive to act as promoters of the deal and not arbiters of quality.

   Some in the industry offer investor greed, wide-eyed optimism and a
   herd mentality rather than misleading research to explain the losses
   investors have experienced. These apologists might admit to
   distortions, but never dishonesty. But to be frank about it, the
   advice provided to investors was often dishonest.

   It was dishonest because small investors were advised to buy stocks
   that the analyst believed they never should have owned, and told to
   hold stocks that they long ago should have sold.

   All this has been widely disclosed and discussed this past year.
   Solutions to some of these problems may be in the offing. I'd like to
   spend the next few minutes discussing another area in which there is a
   structural flaw which again highlights the need for inquiry, oversight
   and reform.

   As I noted at the outset, we are here tonight to recognize individual
   achievement. It is therefore important to understand the achievement
   that is being assessed and awarded.

   These are the institutional investor awards, and thus reflect criteria
   important to institutional investors, who prize analysts'
   accessibility, their insights and their ability to uncover a valuable
   piece of information about a company or sector, and their access to

   What these awards do not measure is the performance of analysts' buy,
   sell and hold recommendations.

   I am not here to question those criteria used by institutional
   investors or to challenge their application. But since my focus has
   been on protecting individual investors, I want to call attention to
   the industry's use of these awards, which is in need of reform.

   Although tonight's all-stars are named by and for institutional
   investors, the brokerage houses tout these awards to the investing
   public together with the analysts' stock recommendations.

   The message being broadcast to individual investors by linking the
   awards to stock picking is deceptively simple: follow the "smart" or
   "professional" institutional money and act on these recommendations.
   That message is simply deceptive.

   It implies that tonight's awards measure the performance of the buy,
   sell and hold recommendations offered. In fact, tonight's awards do no
   such thing. Those in attendance tonight already know this. But the
   investing public is not aware that the awards don't reflect the
   performance of your stock recommendations.

   At the request of my office, a company by the name of Investars has
   analyzed the recommendations of more than four hundred past and
   present institutional investor all-star analysts in 51 industries for
   which there were Dow Jones equivalents.

   Investars measured the performance of the recommendations made in the
   twelve months prior to an analyst being named to the all-star team.
   They also measured the performance of competing analysts not named to
   the team. In all, 110,000 analyst recommendations were reviewed.

   The results are in, and they're telling. In many instances, those
   named to the all-star team are turning in lackluster performances. The
   advice of analysts not chosen would very often have been more
   profitable to individual investors than the advice of all-star team

   Let me be clear:  this does not mean that the analysts honored here
   tonight all performed poorly, or that they do not deserve their
   awards. Some performed quite well, and based on the criteria employed
   by those who voted, you are all indeed all-stars. But it does mean
   that it is inappropriate for your employers to cite these awards when
   touting your buy, sell and hold recommendations to individual

   There is no need for me to go into great detail about the specifics of
   Investars' results. Here are some of the highlights:

    1. When measured by the performance of their stock recommendations,
       only one of this year's 51 first team all-stars included in the
       study ranked first in their sector.

    2. When measured by the performance of their stock recommendations,
       only one of the more than 100 members of the 2000 and 2001 first
       team all-stars included in their study ranked first in their

    3. When measured by the performance of their stock recommendations,
       only 16 of 51 of this year's first team all-stars are in their
       sector's top 5. That is an improvement over last year, when only
       10 of 51 first team all-stars studied cracked the top 5. In 2000,
       only 13 of 51 made the top 5.

    4. More than 40% of this year's first team all-stars did not perform
       as well as the average analyst for their sector. The same is true
       of the 2000 and 2001 first team all-stars whose performance was

       Investars ran several checks to ensure that their methodology was
       not biased against big firm analysts.

    5. In fact, their results indicate that 40% of tonight's first team
       all-stars underperformed when measured against the average
       performance of other big firm analysts covering their sector. 20
       of the 2002 first team all-stars whose performance was reviewed
       performed below their sector's average for big firm analysts; 23
       of the 51 2001 first team members Investars reviewed performed
       below the average of their colleagues at big firms, and 21 of 51
       of the 2000 first team all-stars in the study similarly

    6. Moreover, 25 of the 51 members of this year's first team were
       outperformed by at least one of their runners-up named to the
       second or third team, and half of the 2000 and 2001 first team
       all-stars reviewed were bested by their runners-up.

   Frankly, what is more troubling than the performance of the stock
   picks of some of the all-star analysts is the lack of transparency
   about that performance. When we first attempted to gather this data
   ourselves, we encountered significant obstacles -- and we have certain
   data gathering advantages over the individual investor.

   For an industry that prides itself on trading in -- and relying upon
   -- information, it was surprisingly difficult for us to gather the
   data necessary to objectively measure analyst performance. The
   brokerage houses make the data available on a proprietary basis to
   companies that repackage and resell that data. Acquiring that data is
   far beyond the means of individual investors.

   Even if one can afford the data, it is sold with restrictions that
   prohibit using it to make objective performance measurements available
   to individual investors. Investars was only able to conduct their
   study because they have painstakingly constructed a database of stock
   recommendations by compiling them one-by-one from sources in the
   public domain.

   That has got to change. After spending hundreds of hours listening to
   investment banks and their lawyers lecture about the efficiency of the
   marketplace, I'm still disappointed to learn that they withhold from
   the market the data necessary to allow it to perform efficiently.

   The problem that I have outlined is two-fold: banks use the
   institutional investor all-star designations to improperly convey to
   individual investors that their analysts' stock picking has garnered
   awards. Moreover, the data necessary for investors to objectively
   measure an analyst's stock-picking performance is being withheld from
   the market.

   The solution is to require all recommendations to be provided to a
   publically available database maintained by the S.E.C. or another
   regulatory authority ninety days after they are issued. The banks
   should also make available all the historical recommendation data
   necessary to conduct performance-based measurements.

   This will allow the banks to maintain their practice of providing the
   recommendations to their customers on a proprietary basis while also
   allowing the investing public and others to measure the historical
   performance of the analysts' buy, sell and hold recommendations.

   I believe that achieving this transparency should be an element of any
   global resolution that is negotiated with the industry. Industry
   leaders have been claiming for several months now that they favor
   transparency. If they do, this is an easy first step.

   Some in the audience and in the industry will undoubtedly object to
   the release of this data and to the performance measurements that will
   follow. You should recognize that the movement toward transparency is
   not only inevitable, it is also in your interest.

   More than twenty-five years ago, A.G. Becker started conducting
   performance based measurements for your buy-side colleagues, ranking
   their returns, and comparing those returns to the S&P 500.

   The rankings have brought faith -- and extraordinary investment -- to
   that industry. The weakest performers are penalized, but that is how
   the market should operate. Over all, the industry has gained. Bringing
   transparency to sell-side analysts will bring similar benefits to your

   Another benefit of transparency will be its use as a tool to resist
   investment bankers who would still want you to push the stocks they're
   underwriting. Once your performance is objectively measured , you will
   be more easily able to argue to your investment banking colleagues
   that you must protect that performance and not sacrifice it to satisfy
   banking clients.

   Some analysts are undoubtedly concerned because the reforms proposed
   and implemented to date may lead to decreases in their compensation.
   They will question why their buy, sell and hold recommendations should
   be publically evaluated if the performance of those recommendations
   does not determine their compensation.

   My response to them is simple: if you don't want to stand behind your
   recommendations, don't make them available to retail investors. But
   recognize the potential benefits of transparency: once there are
   performance based measurements made publically available, there can be
   no doubt that banks will compete for -- and generously compensate --
   proven stock-picking talent.

   I said earlier that I am a critic of certain industry-wide practices
   and abuses, but not of the analyst profession. If you think that my
   words here tonight sound harsh, take a moment to compare my approach
   to those of some of the industry's defenders.

   Alan Abelson and Michael Lewis -- two supposedly staunch advocates for
   the banks and the market -- both have written that there is no need
   for regulation because every investor ought to recognize that analyst
   stock recommendations are useless -- and useless is their word, not

   Billion-dollar mutual fund conglomerates have been built in the past
   quarter-century on the theory that individuals who want to invest in
   the stock market should ignore analyst recommendations and simply
   purchase index funds.

   While I'm not ready to dispute that advice -- which has served many
   investors well -- I don't agree with Lewis and others that the product
   of your labors is useless. At least it doesn't have to be. But to
   restore investor confidence in the markets, in the investment banks
   and in the integrity of your recommendations you need to regain the
   trust of the investing public.

   I am not a proponent of government intervention in markets, unless
   there is strong evidence of market failure. But reform is now clearly
   necessary in the brokerage industry.

   The experts can debate and individual investors can decide whether
   stock picking is preferable to investing in index funds. Government
   should not and can not tell investors how to invest their savings.

   But government can not sit idly by when banks are deceptively
   marketing dishonest advice to investors -- whether by pushing stocks
   that they do not genuinely believe in or by using these all-star
   awards as a false proxy for stock-picking performance.

   My own efforts are guided by a confidence in the positive effect that
   transparency will have on the industry. The industry's efforts to
   reform itself should be guided by that same confidence.

   Investors may sometimes act unwisely, in haste or out of greed. But
   those impulses do not excuse the industry from its obligation to
   provide investors with conflict-free advice, and do not relieve the
   banks of their obligation to allow investors to assess the performance
   of the analysts on whom they are being asked to rely.

   The investing public is understandably leery of the industry right
   now. The lack of transparency and the absence of accountability to
   retail investors heightened the distrust that developed when the
   industry's abuses were exposed.

   Because trust is so slowly accumulated, the process of restoring it is
   a lengthy one.

   The best way to restore that trust quickly is to adopt the proposed
   reforms and to implement systems that allow for transparency. Taken
   together, they can serve as a bridge over the chasm of distrust
   separating the investing public from the brokerage industry.

   I look forward to working together with the industry to achieve the
   necessary restructuring, adopt the necessary reforms and regain the
   public's trust.

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