The Stock Selection and Performance of Buy-Side Analysts

The Stock Selection and Performance of Buy-Side Analysts
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The Stock Selection and Performance of Buy-Side Analysts

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A new study by Harvard Business School professors looks at the differing behaviour of buy- and sell-side analysts, with some interesting results (emphasis added):

This paper examines buy recommendation performance for analysts at a large, buy-side firm relative to analysts at sell-side firms throughout the period of mid-1997 to 2004. The researchers find evidence of differences in the stocks recommended by the buy- and sell-side analysts. The buy-side firm analysts recommended stocks with stock return volatility roughly half that of the average sell-side analyst, and market capitalizations almost seven times larger. These findings indicate that portfolio managers (buy-side analysts’ clients) prefer that buy-side analysts cover less volatile and more liquid stocks. The study also finds that the buy-side firm analysts’ stock recommendations are less optimistic than their sell-side counterparts, consistent with buy-side analysts facing fewer conflicts of interest. This and future studies may help sell-side and buy-side executives to allocate their financial and human resources more strategically. Key concepts include:

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  • The failure to find that buy-side research out-performs that of sell-side analysts raises questions about whether investment firms should continue to rely on their own research rather than using research from sell-side analysts.
  • Buy-side firms’ analysts issued recommendations for companies with lower stock return volatility and larger market capitalizations than typical sell-side firms.
  • Buy-side firm analysts recommended stocks with stock return volatility roughly half that of the average sell-side analyst (0.42% versus 0.95%), and market capitalizations almost seven times larger ($9.1 billion versus $1.3 billion).
  • For stocks covered by both buy- and sell-side analysts, there were no differences in the buy recommendations’ performance.
  • Resolving whether buy-side research creates value is highly relevant to managers at buy-side firms who are faced with the challenge of allocating limited research resources.

Read the full study here [pdf].

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At twenty years old, Frank opened the first of what would eventually become four successful restaurants while completing concurrent undergraduate degrees. He later sold these businesses and returned to school to complete concurrent JD and MBA degrees. During this time, he wrote and passed the three CFA exams. Frank takes a value perspective in his commercial real estate endeavours, hunting for unloved and undervalued investment opportunities to add to his investment group’s portfolio. Frank has traveled extensively and lived in Auckland, London, Toronto, and is currently living in Hong Kong with his wife, Danielle, a successful entrepreneur, MBA, author, blogger and international manager for one of the largest global financial institutions. Frank splits his time between consulting and searching for new value investments.
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