As some of you might already know, I’m a true long-term fundamental investor. When I analyze a stock, I study the business plan and the company’s potential over the long term. Along with that, I understand that realizing the long-term value can mean traveling a bumpy road of short-term earnings expectations and short-term stock price fluctuations.
In other words, when I pick a company, I allow time for the management to develop the right strategy to increase the long-term value of the company. Usually such a strategy goes through investment in R&D, hiring people in the right roles, satisfying employees to keep a good work environment, etc. As a long term investor, I cannot support a short-term strategy such as pure cost cutting measures that don’t have real long term reasons other than only reducing costs to meet short term earning expectations or margin forecasts.
Unfortunately, my view isn’t the view of the market in general as mainly short-term investors who get in and out very quickly surround us. Most of the Funds that claim to be long term usually keep a holding for an average of 6-18months which, if you think like a manager, isn’t long term at all since you will never see a strategic business plan succeed in such a short time. Even funds that claim to be socially responsible don’t really think long term in their investments.
However, I do believe my approach is the right one and will always pay off in the long run. I think people should go back at the true sense of what an “investor” should be and stop confusing “investor” with “speculator”.
In order to see a return of the long-term approach in the market, we need some strong modifications in the way the market is regulated and how it is taxed.
In today’s essay, I’m going to focus just on the regulatory aspect. I’ll elaborate on the tax ideas on the third part of the article.
What I propose may be purely “dream” propositions, some of them might be impossible to implement or too expensive to implement but they are rules I would love to see applied to the market, as I think they would change the way the system works and generate a positive effect for all actors: Management, Employees, the Economy and True Investors.
This is the part two of a three part article.
Rules toward Analysts and Credit Rating Agencies
The market is clearly moved by reports from credit rating agencies and analysts. We discovered during the recent crisis that once again, those two actors weren’t very effective in finding out how companies should really be valued or how credit worthy they are. However, a downgrade from a credit rating agency or an upgrade from an analyst is a game changer for the stock or the company concerned, at least for the short term.
I think a better regulation of their role should be in place:
- Rating Agencies should provide far better transparency in their notation and also provide more long-term arguments to support their notation. They should disclose any revenue they earned directly or indirectly from each report they produce. They should be accountable for the accuracy of their report. For example, when they issue a Triple A rating for a product that in fact is a junk bond, they should return any revenue they earned on this work to investors who got hammered by relying on it. The Government or an independent committee should be able to review their most critical reports.
- When an Analyst issues an upgrade or a downgrade, the analyst's employer should be required to release their moves on the subject stock 48 hours before and after the report.
- When an Analyst issues a report, the analyst's employer should be forced to issue the tracking record of that Analyst and how their rating and price target changed during the last 12-24 months in order to allow investors to understand the accuracy and quality of his work.
Rules toward Hedge Funds:
- Some Hedge Funds mark the value of their investment according to their own model and not according to the actual market value. It is true that sometime the market value isn’t realistic due to how illiquid that market might be. However, hedge funds should be forced to release their results with both accounting methods: Their own valuation of investment and the mark-to-market value.
- If the spread between the mark-to-market value and the internal valuation of investment that the fund has in his book is too wide, regulators should have the power to force the fund to explain why the difference is so wide.
- Hedge Funds should be forced to have a very high level of transparency in their investments for both regulatora and fund investors.
- The level of leverage on their investmenta should be limited and disclosed, ideally on a daily basis.
All the actors above play a major role to the market. However we need to be sure that they always play a fair game and keep complete transparency regarding their work.
There is no good reason for those people to hide anything. Rather, they should be transparent and accountable for mistakes that have been market movers and hurt thousands of investor for the wrong reasons.
Disclosure: No position