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Analyzing Investment Research Can Help Investors Weather a Turbulent Market, Says CFA Institute

 

Charlottesville, Va., February 6, 2008 – According to CFA Institute, investment analyst research can help investors make better informed investing decisions, which is particularly important during turbulent economic periods.  

“Investment research plays an important role in the investment decision-making process, and it can vary in terms of quality and usefulness,” said Stephen Horan, CFA, head of private wealth at CFA Institute. “When there are significant market fluctuations, investors need to look beyond TV sound bites for information. CFA Institute believes it is important that individual investors understand the key benefits and limitations of securities research because doing so will help them make greater use of this valuable analytical tool.”

CFA Institute is the global membership association that administers the Chartered Financial Analyst® (CFA®) and Certificate in Investment Performance Measurement (CIPM) curricula and exam programs worldwide; publishes research; conducts professional development programs; and sets voluntary, ethics-based professional and performance-reporting standards for the investment industry. CFA Institute has more than 93,000 members in 131 countries and territories, many of whom have been awarded the prestigious CFA charter.

Horan said that individual investors should consider the following:

  1. Read the entire research report with a critical eye to get the whole story. This includes the footnotes and fine print at the back of the report. Make sure you understand what the company does, its key investment characteristics and its key growth drivers.
  2. Don’t look solely at the recommendation or rating to make an investment decision. In fact, investment professionals often ignore the recommendation or rating, opting instead to use the full report as one of many sources on the way to drawing their own conclusions.
  3. Determine if the stock is suitable for you by assessing its investment characteristics within the context of your own risk tolerance and your broader portfolio. The full report will often provide information that is essential to better understanding risk factors or putting the recommendation into its proper perspective.
  4. If possible, obtain research reports from other sources. This will allow you to weigh opinions and compare the quality of the different analyses.
  5. Look for value-added facts and conclusions such as research drawn from interviews with customers, vendors and other business partners of the company. See how the company is performing now relative to previous quarters and years, and how it is doing compared to industry averages. Determine how dependent the company is on a strong (or weak) economy and how it fits into the bigger economic picture. “All of this creates a “mosaic” of information that paints a much better picture than what you get from a single source of information or a narrow study of the financial statements,” said Horan. 
  6. Ask yourself what the limitations of the research are. Have any key areas or questions about the company gone unanswered? Do potential conflicts of interest exist regarding the firm’s investment banking department? You may not have access to the firm’s research department, but you can ask questions of your investment advisor, if you have one.  


“Research reports that are most often seen by individual investors will vary in terms of content and length,” noted Horan. “For example, a report initiating coverage of a company is likely to provide more detailed analysis than a report updating investors on a recent announcement or commenting on the company’s most recent earnings.”

More detailed reports are likely to offer specifics about the following characteristics: 

  • Fundamentals. What is the company's business? Is it financially sound? Is it growing? How profitable is it?
  • Price history. How is the stock trading on the market relative to its fundamentals? Is the stock price reasonable relative to fundamentals compared to other similar companies? What trading pattern has the stock price followed and is this an attractive entry point?
  • Catalysts. Are there any specific short- or long-term catalysts that will drive financial performance and the company’s position in the future?
  • Peer Comparisons. Who are the company’s direct and indirect competitors and how does the company stack up?
  • Risks. What are the biggest threats facing the company that could impact its ability to meet financial targets?
  • Valuation. The report should outline a valuation model that is used to determine the stock’s intrinsic value or fair price. This kind of analysis is important for comparing a stock’s current price to its fundamental value and highlights assumptions behind the analyst’s recommendation.  
  • Recommendations. A description of the expected return and recommended investment action. How much are investors likely to pay for the stock in the future? Usually, a specific price target over the next 12-18 months is included. The report should have some type of risk rating as well as a time horizon in addition to the recommendation. Remember that an appropriate investment for an individual with a 30-year time horizon will not necessarily be appropriate for a retiree.


“As professionals with a fiduciary responsibility to their clients, analysts have a duty to be skilled and competent in conducting their research and to put the interests of investors first,” said Jonathan Stokes, director of standards of practice for the CFA Institute Centre for Financial Market Integrity. “For example, the CFA Institute Code of Ethics requires that analysts issue objective research and recommendations that have a reasonable and adequate basis supported by appropriate research and that they disclose any conflicts or relationships that could be expected to impair the analyst’s ability to make unbiased and objective recommendations.”

Horan added that “it’s important to remember that analyst research, while valuable, is only a starting point and should be combined with your own informed assessment. Look at the company’s news releases, quarterly and annual reports, and any other regulatory filings that may shed light on its performance and prospects.”

Additional Resources:


CFA Institute
CFA Institute is the global membership association that administers the Chartered Financial Analyst (CFA) and Certificate in Investment Performance Measurement (CIPM) curriculum and exam programs worldwide; publishes research; conducts professional development programs; and sets voluntary, ethics-based professional and performance-reporting standards for the investment industry. CFA Institute has more than 93,000 members, who include the world’s 81,000 CFA charterholders, in 131 countries and territories, as well as 135 affiliated professional societies in 56 countries and territories. More information may be found at www.cfainstitute.org. (Bloomberg users can find CFA Institute at 497458Z).