Wall Street is Bad at Stock Picking

Street analysts are poor stock pickers.  They are like NFL quarterbacks attempting to make an open-field tackle.  Picking stocks is not in their job description, nor is it a priority.  Street analysts are not paid for making accurate stock selection, and it is just not an important function for them. 

Investors should never trust brokerage firms' stock recommendations.  I was reminded of this when noticing Barron's recent 2008 Midyear Roundtable Report Card of its experts' picks at the start of the year.  There were 72 recommendations by 11 money managers, presumably the best in the business, tracked from January 4 to June 6.  The daunting results showed that only 55 percent of the choices outperformed the market (the S&P 500 eased 3.6 percent).  Some 13 percent outperformed all right, but still declined in absolute terms.  So in actuality way less than half of these experts' recommendations were up after six months, a rather mediocre record by the best on the Street.

The responsibility for quality, accurate, investment decisions is centered on money managers, mutual fund portfolio managers, hedge fund managers and the like - that comprised Barron's Roundtable.  The function of Wall Street brokerage security analysts is research and marketing to institutional clients.  This necessitates maintaining cordial relations with corporate executives of the stocks under coverage. 

Investment banking is a more subtle influence, and combined with the above, corporate executive-research relationship leads to a materially favorable bias.  Only about 10 percent of all Street investment ratings are Sells.  Not only are analysts unskilled at making investment recommendations, but the bias renders their opinions even more unreliable.  The system spawns this fatal flaw because analysts are compensated mainly for profile, status, clout and industry/company knowledge rather than for investment opinion accuracy.

Brokerage firms are proud of their emphasis lists.  Most brokerages compile what are viewed as their best recommendations and market them under assorted embellished titles.  Goldman Sachs calls its best stocks "America's Conviction Buy List."  In the rankings for all of 2007, five brokers' best Buys outperformed the market while nine lagged - a pathetic performance.  At one point a couple of years ago, the brokerage firm whose recommended list did the best was Charles Schwab, which does not even employ research analysts.

In spring 2006, the Barron's Roundtable professionals' Sell recommendations from the year before had surged ahead by 28 percent compared with their Buys that climbed just 13 percent.  In the 2007 Roundtable for the entire year, only four of the 11 experts had more than half of their top choices outperform the market.  For the 12-month span ending in early June 2008, the Barron's Roundtable group results indicated just 56 percent of the picks outperformed.

As I point out in my book, Full of Bull:  Do What Wall Street Does, Not What It Says, to Make Money in the Market, investors should not take Wall Street literally.  Use its information and its research content, but not its conclusions or its recommendations.  Research reports are never complete, forthright, balanced or objective.  They are good for background, but are not actionable. 

I was a Street securities analyst for 32 years, so I know how the game is played.  Insiders know the code, but I am amazed how naïve investors can be so misled by Wall Street doubletalk.  Put the Street in the proper perspective and make more profitable long-term investment decisions.

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