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A year ago, Salomon Smith Barney seemed to purr about every stock.
Of the more than 1,000 U.S. stocks the New York brokerage monitored, it rated 68 percent a "buy" and only 1 percent a "sell," according to Thomson First Call.
Today, after allegations that Wall Street companies puffed up the ratings of companies such as AT&T in order to win their investment banking business, Salomon's ratings distribution looks far more balanced: 30 percent of stocks rated a "buy" and 28 percent a "sell."
The message? Salomon, a unit of financial services giant Citigroup, isn't afraid to tick off a company.
Other major Wall Street firms have made similarly dramatic shifts since May, when regulators including the Securities and Exchange Commission set tighter research and disclosure rules. A $1.4-billion regulatory settlement signed last month by 10 of the largest investment banks promised even more research integrity. Salomon alone took a $400-million hit.
The banks are fortunate they still have the right to rate stocks. At one point during settlement discussions, government regulators considered stripping away that right and requiring brokerages to jointly fund an independent research entity. Instead, the firms agreed to purchase and distribute independently-produced research reports along with their own.
But today's higher "sell" numbers may not be what they seem. That's because new rating systems introduced by Wall Street brokerages in recent months are inconsistent with one another. In some cases, they're misleading. Some critics say that's precisely what the brokerages want: to appear tough, without angering the companies they rate.
Whether the changes work remains to be seen. Under the May rule changes, for example, Wall Street firms must regularly publish the total percentage of stocks to which they would assign a "buy," "hold" or "sell" rating. The purpose is to provide investors with a uniform set of statistics and terminology for comparing one brokerage's record to another.
Stark differences do appear. Take Goldman Sachs and UBS Warburg, both of which paid millions under the recent conflict-of-interest settlement. According to Thomson First Call, Goldman rates 22 percent of the 811 U.S. stocks it monitors a "buy" and 21 percent a "sell." By contrast, UBS Warburg has a "buy" rating on 51 percent of its 850 stocks and a "sell" rating on just three percent.
That would make Goldman seem less bullish, more honest or more willing to anger the companies it rates than UBS Warburg is.
But the two sets of statistics aren't really comparable. That's because the new research rules, crafted by the self-regulatory New York Stock Exchange and National Association of Securities Dealers, don't require brokerages to use uniform methodologies for rating individual stocks.
UBS Warburg's new rating system treats every stock the same. Companies expected to provide an annual return on investment at least 15 percent higher than a 30-year Treasury bond receive Warburg's highest rating. Those likely to underperform the Treasury by 15 percent or more get the lowest rating. The remainder settle in the middle.
Like Salomon's and some other brokerages', however, Goldman's new rating system rates each stock relative to its industry peers. So even if the telecom sector is in deep trouble, a telecom company could get a top rating if its losses were less horrendous than those of its competitors.
Goldman spokesman Ed Canaday defended the use of relative ratings. Most of the firm's research clients are sophisticated people who invest by sector: pension fund managers or other institutional investors and individuals worth more than $25-million. What they want to know, Canaday said, is which stocks to buy and sell within each sector.
Tom James, chief executive at Raymond James in St. Petersburg, disagreed. "Simply said, Goldman wanted more 'sells,' " James said, arguing that Goldman seeks to looks tough, not advise its clients to sell dozens of stocks.
The new research rules fail to clear up the foggy terminology used in rating individual stocks. Though many firms use the unequivocal term "buy" for their best stocks, few label their worst stocks "sell."
Raymond James, which was not a party in the December conflict-of-interest settlement, is a good example. Under its prior rating system, the St. Petersburg company used "strong buy" for its best stocks and "sell" for its worst. When it converted from a five-tier system to a four-tier one last year, it kept the term "strong buy" but dumped "sell" in favor of the more euphemistic label "underperform."
"The 'underperforms' are clearly, 'Get the hell out of this,' " James said. "We want to make very clear that our message to people is, 'Sell that stock.' " Raymond James has increased the stocks to which it gives its lowest rating from less than 1 percent a year ago to 10 percent.
But if the goal is clarity, why not just call the lowest rating "sell"? James said the firm wants to make sure its clients distinguish between stocks they should sell unconditionally and those rated "market perform" they should sell under certain conditions, such as for tax reasons. "We decided we're not going to rely on the word ("sell") itself."
UBS Warburg also avoided the term "sell" in its new system, opting instead for "reduce." Merrill Lynch, which participated in the conflict-of-interest settlement and doled out an additional $100-million in a separate case last year, is one of very few firms to convert to a straightforward "buy," "neutral" or "sell" rating system.
Chuck Hill, research director at Thomson First Call, thinks the SEC will eventually require all Wall Street firms to do the same.
"I mean, yeah, spell it out," he said. "That was the intent of the rule."
-- Scott Barancik can be reached at firstname.lastname@example.org or (727) 893-8751.