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Are Institutional Investors Really Doing Equity Research?

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This week MU stock gap’ed up ~1,000 bps following two sellside upgrades. Last week CAVM stock gap’ed down ~2,000 bps following four sellside downgrades. Between those two examples, the MU example is more “pure” in the sense that there was no other significant company- or industry-specific news update supporting the stock move. You can find plenty more examples like this (e.g. GOOG price action last week), all you have to do is look. The question is, if sellside rating (or estimate) changes frequently and consistently move stock prices, then what does it say about “independent” research that institutional investors are claiming to do? Just to be clear, by “institutional investors” I am referring to large organizations like mutual funds, hedge funds and pension funds, who both independently and collectively wield enough trading horsepower to move market prices of stocks.

MU and CAVM Rating Changes

As you have probably noticed, I tend to analyze correlations between Stock Prices and NTM EPS estimates. Where do you think “NTM EPS estimates” come from? Yes, they come from the sellside. The fact that stock prices frequently and consistently track NTM EPS estimates can be potentially interpreted a few different ways, one of which is that large buyside investors who place big market-moving trades, aren’t really doing (or applying) independent equity research. Generally, this dynamic can be thought to create opportunities for the value investor primarily in two ways –

1) when stock prices are not tracking NTM EPS estimates, and those estimates are directionally correct, or
2) when stock prices are tracking NTM EPS estimates, but those estimates are wrong

You will find a more detail discussion of this dynamic in my book. The only way to definitively identify such opportunities would be to do your own independent equity research. That of course might be easier said than done for individuals that lack necessary resources to carry out equity research.


Now imagine an independent investment management platform built on a well-defined equity research process, such that the research is made available (to the public) virtually free of charge. Experts within the community would have a chance to challenge published research findings or contribute their own industry insights to potentially drive a better outcome. Some individuals may determine that they are qualified and confident enough to use the information provided to build their own portfolios. Others may decide they would rather delegate portfolio management to the investment manager. At the very least, clients would benefit from nearly 100% transparency of the investment process, as well as its outcome.

With help from some of you, I am working to build an investment management platform just like this, and would love to hear your thoughts. I have previously written about such an aspirational model for investment management in my book, as well as a blog post ?here.

Disclosure: At the time of this writing, I held long positions in MU, GOOG and CAVM.
Additional Disclosures and Disclaimer
Source: Stock market data provided by Sentieo


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