Tales of the Tape

Despite New Rules at Some Firms,
Analysts Still Avoid 'Sell' Ratings

By CHERYL WINOKUR MUNK
Dow Jones Newswires

NEW YORK -- Don't expect to see a barrage of "sell" ratings on Wall Street.

Gerard Klauer Mattison & Co. and Prudential Securities recently have encouraged their analysts to be bolder in warning investors away from a bad stock. Still, analysts' reluctance to issue "sell" recommendations is well known and many observers expect such warnings to remain scarce.

The new practice by Gerard Klauer and Prudential is mainly for publicity, analysts argue, adding that the firms would have been unlikely to change their ways if their bread-and-butter revenue came from investment banking.

"Do I think the Street will become regular users of the sell rating? Not in my lifetime," said William Valentine, president of Valentine Ventures LLC in Bend, Ore., a money management firm for high net-worth individuals. He and others think that the desire to stay in the good graces of corporate clients will continue to discourage analysts from issuing "sell" ratings.

However, Sean McGowan, director of research at New York's Gerard Klauer, hopes his analysts will work the rating into their repertoire. He began a contest this month to award an undisclosed cash prize to the analyst who gives a "sell" or "underperform" rating on a stock that subsequently falls the most in 2001 and meets certain other criteria.

He said the firm, which didn't have any "sell" or "underperform" recommendations when he cooked up the idea in December, now has a few.

"I think we're going to have more in the next couple weeks," he said.

Mr. McGowan, who is paying the prize partially out of pocket, said doing what's best for clients is the reason for the contest, not publicity for the firm.

Prudential Securities said it expects a new investor-focused strategy will result in more "sell" ratings. In mid-December, the company said it was drastically cutting its investment-banking department to focus on research, trading and advisory services to institutions and retail clients.

Now that the Prudential Securities doesn't have to worry about pleasing corporate clients as well as serving investors, it is inevitable that more "sell" ratings will occur, said Bob DeFillippo, a spokesman for Prudential Insurance Co. of America, the securities firm's parent.

Prudential Securities currently covers roughly 650 stocks. Spokeswoman Susan Atran declined to say how many of those are "sell" ratings, but said the current number of "sell" ratings is up slightly from a few weeks ago. It is unclear, however, how much of that is attributable to the choppy market. Ms. Atran said it is too soon to tell if the strategy change has a significant effect.

Even if Prudential analysts issue more "sell" ratings, investment professionals aren't holding their breath that the rest of Wall Street will follow suit.

A survey by the Association for Investment Management and Research, or AIMR, done for Dow Jones Newswires, shows that 72% of respondents don't expect brokerage firms to issue more "sell" ratings in 2001. The 142 respondents include sell-side and buy-side analysts as well as investment managers.

"I don't think the game has changed," said Dave Otto, director of research at Edward Jones in St. Louis. "When the markets go down, obviously customers are complaining, 'Why didn't I sell when it was higher'?"

Analysts must then review their ratings, which is typical of a down market, Mr. Otto said. But that doesn't mean "sell" ratings will become more popular, he said.

The last thing analysts want to do is come out and say "sell it" about a company with which they have a banking relationship, said Andrew Schuler, a buy-side analyst with Carnegie Capital Asset Management Co. in Cleveland.

It's "like walking up to you and saying 'You're ugly'," said James Meyer, director of research at Janney Montgomery Scott LLC in Philadelphia.

To be sure, there is evidence that the percentage of "sell" ratings has increased slightly in recent months, but that should come as no surprise given the jittery stock market. On Jan. 22, "sell" and "strong sell" ratings were 1.3% of the recommendations, up slightly from 1% on Jan. 1, according to First Call/Thomson Financial. On Dec. 1, "sell" and "strong sell" ratings were 1%, up a sliver from 0.9% on Nov. 1.

"Analysts are making some slight moves downward with their expectations," said Chuck Hill, director of research at First Call. "But you still have the extreme positive bias that you always had. So you still need your decoder."

It is, however, easier to issue a sell rating on downtrodden companies. Mr. Meyer of Janney Scott said it is easier today to put "sell" ratings on technology companies, for example, because many of them aren't in a position to hold investment-banking business over a company's head.

However, if the market turns around and there are investment-banking opportunities again, "I suspect that 'sell' will be a dinosaur again," he said, adding that about 2% of the companies Janney rates are currently dubbed sells.

Analysts defend their objectivity, but admit that it is better for them to temper their negativity.

"There certainly is an understanding that it's in everybody's best interest that you not be any nastier than you need to be, particularly for investment banking clients," said one analyst with a major New York investment bank who asked that his name not be used. "If you have something negative, you can at least be nice in saying it."

Hence, the euphemisms.

Cash-strapped Xerox Corp., for example, has one "moderate buy," 11 "holds," and one "strong sell," according to Zacks Investment Research Inc. That's about as bad as it gets, said Mitch Zacks, vice president of the Chicago research firm.

Ray Soifer, a former banking analyst who is now a consultant, said Regulation FD may take some pressure off analysts, at least from fears of being shut out by the company. The Securities and Exchange Commission passed Regulation FD, or fair disclosure, to level the information playing field for all investors. The new rule, which took effect Oct. 23, bars companies from sharing important, inside information with a select audience.

Even with Regulation FD, however, some investment managers say the disconnect between what analysts say and what they mean isn't likely to go away. It also means that their ratings will continue to be suspect.

"We heavily discount the ratings that the analysts provide. We don't find them of much value," said Mr. Schuler of Carnegie Capital.

John Thayer, chief investment officer of Associated Trust Co. in Greenbay, Wis., agreed. "That's why we do our own research."

Write to Cheryl Winokur Munk at cheryl.munk@dowjones.com