5.1 Types and Role
Equity analysts are a central link between professional investors and listed companies.
They analyze selected companies and provide a judgment on the quality and suitability of an investment. A distinction is drawn between two types of analysts:
- Sell-side analysts can be found at financial institutions that trade in shares, thus investment banks, brokerage houses, and private banks. Furthermore, there are specialized boutiques that are dedicated entirely to financial analysis. Sell-side analysts do not themselves invest (or only rarely) money in the companies that they write about but provide third parties with buy and sell recommendations. An individual analyst will generally cover around a dozen companies. The core of the analysis is an independent company valuation. An important basis of information for this is provided on the one hand by the detailed results and notes in the annual report and, on the other, by information on the future as well as face-to-face meetings with the management. When you read and hear about analysts in the media, they are almost always sell-side analysts.
- Buy-side analysts are part of an investor team that makes investments itself and directly. They generally work at investment and asset management companies. Their remit is very similar to that of the sell-side analysts. They also analyze companies, and they also form their own opinion. But they generally cover more companies in this process – more numerous rather than one dozen – and can thus normally spend less time on an individual investment. They sometimes take the reports by sell-side analysts as an occasion to take a closer look at and form their own opinion on a company. Buy-side analyses are not intended for a wider public.
- ESG analysts are becoming more commonplace both on the sell and buy side. Whether an ESG analysis is used as the basis for an investment decision or if it forms part of a straight sustainability strategy that focuses on the ESG analysis – all these different approaches can be found. Nowadays, it is rare for an investment decision to be made without at all taking into account sustainability aspects and the associated risks. ESG data providers audit firms using various data models and, in many cases, require in-depth information. It is advisable for a company to publish in-depth ESG data and answer the specific questions raised by the ESG analysts as necessary.
Many thousands of different equities are available worldwide to investors to choose from. Equity analysis holds an important position here, as it enables a careful selection of stocks to be made on the basis of a variety of factors. Equity analysis thus has the aim of separating the «bad» from the good and thus promising stocks.
Quality of the Forecasts
How good are analysts’ forecasts? There are a large number of studies on the quality of the work performed by analysts. The majority come to the conclusion that the forecasts by analysts tend to be too optimistic but are better than simple extrapolations. The quality of the analyses respectively analysts has a positive correlation here with the individual experience, the breadth of coverage of the relevant industry and the size of the employer. Good analysts know the specific industry especially well, have cultivated excellent networks and have access to the customers of the companies in question (more on this can be found in the book by Baruch Levi).
For this purpose, analysts draw up estimates for a wealth of key performance indicators and ratios for future fiscal years. Various data providers such as Bloomberg and the Swiss news agency AWP consolidate the published key performance indicators into consensus forecasts, generally for sales and profit or profit per share. They gain public relevance.
Conflicts Of Interest
Analysts work both for their clients and for their employers. If the employer is a bank that trades in shares, a potential conflict of interest arises, namely that analysts with pointed opinions and projections can stimulate share trading (brokerage) or optimize the valuation that is key for investment bankers with optimistic analyses in the course of a listing or a capital increase. Clear organizational divides, known as Chinese walls, and internal bank regulations are intended to minimize these conflicts of interest.
i | Lev, Baruch: Winning Investors Over, Harvard Business Review Press, Boston 2012 |