Scenario: Many brokerage firms got into a lot of trouble because their analysts

Question

Scenario: Many brokerage firms got into a lot of trouble because their analysts continued to recommend clients “buy” Enron as its share price plummeted. This was due to the conflict of interest in that those brokerage firms did not want to lose Enron as a client. It was said that “buy” recommendation was really a “hold”. Also, a “hold” recommendation really meant, “sell” because no brokers wanted to lose clients. Do you believe a stock analyst can truly be independent if he knows his brokerage firm depends on the corporation he is evaluating for tens of millions of dollars in underwriting fees each year? Explain.

Explanation / Answer

Ans;

No, when your future depends the viability of someone else, you inadvertantly become the firm's saleperson. There is a huge conflict of interest. Enron exposed the nexus between analysts and large public companies. The whole episode and more recently the recent financial crisis again where the integrity of credit rating firms was questioned have changed the rules. Now if you get or own a stake or any form from a public frim, you have to report it to the general public. Moreover most firms now separate their research and investment advisory departments to minimise the leakage of information.

Source: I work at one the top three I banks

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