3.ConclusionsSell-side analysts have come under fire from investors, politicians, and regu-
lators in 2001 and 2002 for their perceived power in influencing investors’
decisions and stock prices. The broad claim has been that analysts have
been manipulative and insincere, recommending stocks not necessarily be-
cause they expect them to be out-performers, but rather because doing so
will increase the investment banking or trading profits of their firms, their
compensation, and even their own personal investments. Largely motivated
by angry investors reeling from technology stock losses, Congress held
hearings titled “Analyzing the Analysts” in the summer of 2001. By early
2002, analysts again made front-page news, accused of contributing to
massive losses experienced by Enron investors. Fifteen of seventeen analysts
covering Enron were still recommending the company’s stock as a “buy” or
“strong buy” just six weeks before its bankruptcy filing.^8 The analysts’ em-
ployers, the largest banks and brokerage houses, had received hundreds of
millions of dollars in fees for lending, underwriting, merger and acquisition
advice, and trading.^9 In the spring of 2002, Merrill Lynch settled with the
state of New York, agreeing to pay $100 million in fines and change some
research practices after analysts’ private emails, trashing the stocks of
some companies they touted publicly, were disclosed.^10 In the aftermath,
several reforms have been proposed and enacted that may help to safeguard
against some potential abuses. It is premature to opine on the effect of these
reforms, but many investment professionals believe that some of these re-
forms will be beneficial in enhancing the integrity of the markets.^11
What is the role of security analysts in the capital markets? It seems clear
that analysts are, in economic terms, first and foremost marketing agents
for their employers, most of which are hybrid brokerage/investment banks.
Their raison d’etre is to increase the revenues and profits of their employ-
ers. Thus, their reports and recommendations are designed to increase bro-
kerage commissions and generate investment banking fees.
However, investors, regulators, and politicians have expected from and
given analysts a larger role as unbiased advisors to the public on the valua-
tion of marketable securities. In fact they implicitly expect analysts to have
a fiduciary responsibility toward the investing public (despite the fact that
MARKET EFFICIENCY AND BIASES 409(^8) The Wall Street Journal, “Most Analysts Remained Plugged in to Enron,” October 26,
2001, p. C1.
(^9) The Wall Street Journal, “How the Street Greased Enron’s Money Engine,” January 14,
2002, p. C1.
(^10) The Wall Street Journal, “Merrill Lynch to Pay Big Fine, Increase Oversight of Analysts—
New York Attorney General Wins $100 Million Penalty; Emails Exposed Research,” May 22,
2002, p. A1.
(^11) See Boni and Womack (2002a) for a further discussion of the developments that led to
passage of new NASD Rule 2711 and amendments to NYSE Rule 472 on analyst research.