Special Feature
How to profit from their collective uselessness
Vice versa is true on the buy side: i.e. what I look for in deciding, as part of my investment process, whether to purchase a stock are the following:
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If we know just how useless analysts are, then the question, of course, is how do we use this information to profit? Here’s my shortlist of what I look for in a short position:
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Relatively low short interest from stock borrowing data implying that should a company slip up with its results or the market face a correction, then heavy short covering will not act as a buying support for the stock.
What I like to see is neutral consensus sentiment with a strong bull and bear argument by one or two analysts and the bull argument from an entirely independent analyst, i.e. not connected to the company. The neutral basis tells me that the company is probably forgotten and surprises are not expected by the investment community. Again, it is the smaller research boutiques that generally produce the dissenting calls and whose clients are hedge funds prepared to pay for good research. A buy argument that is well reasoned is part of my cue for action.
2 Consensus media positivity — pretty much for
all the reasons detailed here — it is very rare that a journalist will swim against the tide and put his own neck on the block (present publication excepted of course!) in making a contrarian call. Almost universal positivity amongst analysts
3 covering the stock, with very few sell
recommendations. Where there is a sell recommendation, and it is produced by an independent research house, then the bear arguments are pored over carefully.
4 The first thing I look at in an analyst note is the
disclaimer at the bottom of the note in which they are legally forced to disclose if they have, or expect to, receive fees from the company in question, generally due to corporate finance fees. This tells me all I need to know about independence and objectivity.
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I personally never, ever, ever follow a Goldman Sachs Buy note and would likely do the opposite of what they recommend. Nuff said on that one.
30 | www.financial-spread-betting.com | March 2013
You’ll be surprised perhaps to hear that it is not actually universal negativity around a company. Recall my point about analysts not, in general, being “heroes” with ballsy calls. Well, if a stock is universally hated, then there is usually a very glaring fundamental reason for this such as a declining marketplace, debt problems etc.
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Large short positions in the marketplace such that positive news can act as a catalyst for the stock and which then receives extra buying fuel through short covering.
Two companies display in perfect graphical form the points above. Shoring up the bear side is Apple: a stock that fitted all the criteria detailed here — universal positive sentiment, few sell recommendations; and on the bull side — a stock with heavy short interest and where very few analysts were buyers — Blackberry (formerly known as Research in Motion). They say a picture speaks a thousand words — take a look at the six month relative chart to the right.