LETTER: Equity sell-side analysts need to be more dynamic
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As an equity sell-side analyst I perform “fundamental” research into a listed company’s business prospects to determine whether its stock is mispriced. This information is used by asset managers to enable more efficient allocation of funds to those businesses that are likely to outperform in the long term.
I often get asked what fundamental research is all about, when it often fails to predict whether a share price will go up or down. This got me questioning the genesis of fundamental/bottom-up equity research and its efficacy today.
The Oxford dictionary definition of fundamental is: “forming a necessary base or core of central importance”. In observing the real-life application of fundamental equity research, the analyst’s focus must be on a company’s prospective earnings.
There are three reasons for this: 1) Company earnings matter the most to long-term share price performance; 2) earnings forecasts (while proven to be a poor predictors of future earnings, particularly when heading into bear markets) are a derivation of a factual starting point (historic earnings) as opposed to valuation frameworks, which work a lot less effectively in a world of indexation, quantitative easing and zero interest rate policy; and 3) most importantly, because it has always been done this way!
It is no secret that, in practice, both sell-side and buy-side incentives slant towards short-termism, yet somehow the inconsistent behaviour persists — we spend the bulk of our time on a metric that fails to provide accurate outcomes in the short to medium term, a key focus area for the majority of asset managers.
I am not without blame in this regard. The neglect of share price drivers outside an earnings lens is a limitation to the efficacy of an equity analyst’s job. Our thinking needs to go back to first principles, which call for incorporating “fundamental” aspects of indexation, flows, and bond and currency market impact on share price performance.
The preconceived idea that an equity analyst is a specialist in the discipline of equity markets has perpetuated flawed and narrow thinking — that it is okay to be exempt from the basic mechanics of these related disciplines. To reclaim our effectiveness it is time analysts commit to being more dynamic.
Munira Kharva
Via e-mail
JOIN THE DISCUSSION: Send us an e-mail with your comments. Letters of more than 300 words will be edited for length. Send your letter by e-mail to letters@businesslive.co.za (mailto:letters@businesslive.co.za). Anonymous correspondence ...
I often get asked what fundamental research is all about, when it often fails to predict whether a share price will go up or down. This got me questioning the genesis of fundamental/bottom-up equity research and its efficacy today.
The Oxford dictionary definition of fundamental is: “forming a necessary base or core of central importance”. In observing the real-life application of fundamental equity research, the analyst’s focus must be on a company’s prospective earnings.
There are three reasons for this: 1) Company earnings matter the most to long-term share price performance; 2) earnings forecasts (while proven to be a poor predictors of future earnings, particularly when heading into bear markets) are a derivation of a factual starting point (historic earnings) as opposed to valuation frameworks, which work a lot less effectively in a world of indexation, quantitative easing and zero interest rate policy; and 3) most importantly, because it has always been done this way!
It is no secret that, in practice, both sell-side and buy-side incentives slant towards short-termism, yet somehow the inconsistent behaviour persists — we spend the bulk of our time on a metric that fails to provide accurate outcomes in the short to medium term, a key focus area for the majority of asset managers.
I am not without blame in this regard. The neglect of share price drivers outside an earnings lens is a limitation to the efficacy of an equity analyst’s job. Our thinking needs to go back to first principles, which call for incorporating “fundamental” aspects of indexation, flows, and bond and currency market impact on share price performance.
The preconceived idea that an equity analyst is a specialist in the discipline of equity markets has perpetuated flawed and narrow thinking — that it is okay to be exempt from the basic mechanics of these related disciplines. To reclaim our effectiveness it is time analysts commit to being more dynamic.
Munira Kharva
Via e-mail
JOIN THE DISCUSSION: Send us an e-mail with your comments. Letters of more than 300 words will be edited for length. Send your letter by e-mail to letters@businesslive.co.za (mailto:letters@businesslive.co.za). Anonymous correspondence ...
