The role of Equity Research

  • Plays a very critical role that fills the information gap between the buyers and sellers of shares because these parties don’t have the resources or capabilities to analyse every stock nor are they given full information by management which creates further inefficiencies in the knowledge gap
  • Equity Research analyst spend lot of time, energy and expertise in filling this gap by analyzing stocks, follow news, talking to the management and provide an estimate of stock valuations.
  • Also, equity research tries to identify the value stocks out of the massive ocean of stocks and help the buyers to generate profits.

 

What is the difference between the Sell-side vs Buy-Side?

Buy-side is institutional clients. These are entities that invest and manage money on behalf of someone else and include pension funds, hedge funds, endowment funds and asset management firms. All of these entities are referred to as the “buy side” because they buy the services that the investment bank sells (the investment bank is referred to as the “sell side” for that reason).

  • Institutional clients need to execute trades when they buy or sell stocks in their portfolios, and hence they will use the investment bank as the broker to carry out these trades.
  • Institutional clients need to decide which stocks to invest in, and they will use the investment bank to gather the research it produces and talk to the analysts covering the stocks, in which they are interested.
  • Institutional clients use the investment bank to set up meetings with the management of the companies they are investing in and attend various industry conferences in order to learn more about these companies.

In summary, institutional clients use the investment bank to learn more about the bank’s corporate clients.

Sell-side are the investment banks who have corporate clients that they help raise finance for and identify merger opportunities (on the IB side), offer lines of credit on the corporate banking side and on the sales side, we develop relationships and ask questions of the companies we cover in research in order to issue independent research that we together with the sales team would try and pitch to institutional clients in order so that they place trades within the bank and we can make sales commissions on those trades that are split out between sales, trading and research at the end of the year.

People want to be on the sell side because as opposed to covering an entire portfolio and different sectors, they want to be an expert in the X sector, known for their research and highly ranked amongst other analysts in the industry.

 

Research produced by sell-side analysts goes out to two different sets of clients;

Internal

  • Salesmen rely on these calls to provide investment ideas to their clients.
  • Traders need research analysts’ calls to be well positioned on the stock as they are buying and selling it, but also to increase trading activity in stocks so that they can obtain commission on order execution and generate revenue through market-making.
  • Proprietary traders utilise these ideas to generate trading revenue for their firm if the recommendations are correct.

External

Research analysts distribute their research directly to their clients e.g. asset managers like Fidelity and hedge fund managers. We do this in the hope that these clients will trade through our firm so we can earn commissions but also to build and uphold a profile within the industry for having the necessary sector intelligence and the ability to make the right calls.

How do we generate revenue from equity research reports

  • For small firms that don’t have sales and trading, they make money on a per report basis
  • For large banks, fee income is earned by brokerage trades (soft dollars). We give recommendations and try and convince the buy side e.g. mutual funds, institutional investors and retail investors for free and in return they will place orders for equities through our traders who will charge them a commission. This commission charged is then split between sales, trading and research.

Doing research you would use sources such as;

  • Industry publications
  • Annual reports
  • Trade journals
  • Attending conference calls for important company updates, results etc
  • Interview with management
  • Working with buy side analysts
  • Networking
  • Trade shows

 

A sell-side equity research team – at an investment bank

You would be working within a team of analysts working under associates who will report to a senior analyst for each sector. Most senior analysts cover high market cap companies that investors want to invest in, but also may cover a small cap or mid cap

The primary job of an associate is to support the Senior Analyst in best way possible. You would initiate perform and maintain a high level fundamental analysis of plcs to assess suitability of stocks for inclusion in portfolios. Investment analysis would include financial statement analysis (ratios), financial modelling (projections and valuation) and comparable company analysis together with assessment of industry and macroeconomic trends.

Senior analysts would be talking to the clients (buy side) and showcasing their calls on the stocks and have to articulate clearly why a certain stock should be included in the asset manager’s portfolio. They would also update the Sales team, dealing and trading team about the latest news in the sector and the company and keep them updated with the brokerage’s view on the same.

Most research teams cover 8 – 15 companies – so if you’re responsible for large-cap tech stocks, your team might cover Microsoft, IBM, Intel, Cisco, Dell, Oracle, Google, Apple, HP, Yahoo, and Amazon (in real life the team would be split into hardware, software, and internet).

 

Typical day of a sell-sde analyst

7am

  • check email from sales and trading people to see if there’s anything you need to put together in terms of coverage
  • check the markets
  • morning call – pitching research reports and views on the sector to equity sales who will then pitch that to clients

9am markets open – lunch

  • Following markets and looking out for key developments in the sector
  • Dealing with client requests in terms of coverage and updating financial models
  • Making calls to buy side clients or having meetings to discuss research reports
  • You may randomly be doing some analysis and then some news gets released into the market that somebody is buying someone – so you will need to do an m&a scenario

Lunch to market close

Watching market moves for companies under coverage and work on new research publication for next day or coming days. A normal analyst comes up with 1 to 2 publications per week.

It gets busiest during earnings season when companies publish their earnings.