Financial Analysts: NYSE and NSAD Rules and Disclosures

Investors must be critical of research reports released by brokerage firms and financial analysts. Research reports may reflect the bias of their author. While there are rules that aim to minimize such biases, these rules do not totally eliminate them.

This article will discuss the disclosures required from brokerage firms and financial analyst. These will help you determine whether a research report is objective or not.

The rules that apply to brokerage firms and financial analysts will also be discussed. These rules aim to minimize bias on the part of brokerage firms and financial analysts. Once you know these rules, you will be able to gauge whether your brokerage firm or its analysts are following them or not.

Required Disclosures: Revealing Potential Conflicts of Interest

Brokerage firm required disclosures: The following disclosures are required of brokerage firms.

• A brokerage firm must disclose it if the compensation, salary or bonuses of the brokerage firm's financial analysts are linked in any way to the firm's investment banking profits.

• A brokerage firm must disclose its standard parameters for rating securities. Rating terms and categories must be clearly defined and explained.

• A brokerage firm, when assessing securities, must include the historical price plot of these securities. Changes in ratings through time must be clearly marked in such a plot.

• A brokerage firm must disclose it if it has investment banking relationships with a company covered in a research report. Specifically, a disclosure is merited if:

  • anytime in the past year, the company has availed of and paid the firm for an investment banking service,
  • anytime in the next 3 months, the firm is expecting payment from the company for investment banking services,
  • anytime in the next 3 months, the firm intends to demand payment from the company for investment banking services, and
  • the firm was the manager or co-manager at the public offering of the company's securities

• A brokerage firm must indicate what percentage of companies in each rating category (e.g. buy, sell, hold, etc.) are investment banking clients.

• A brokerage firm must indicate what percentage of companies assessed in a research report belong to each rating category (e.g. buy, sell, hold, etc.).

Financial analyst required disclosures: The following disclosures are required of financial analysts.

• Whenever a financial analyst makes a positive recommendation of a company's securities, he must reveal any ownership interest he may have in this company.

  Ownership interest applies if, by the end of the past month, the analyst owned more than 1 percent of the company's securities.

• Whenever a financial analyst discusses his assessment of a particular company on a public interview (e.g. TV, radio, etc.), he is required to make the appropriate disclosures:

  • if he or his brokerage firm has an ownership/financial interest in this company,
  • if his brokerage firm has investment banking relations with this company,
  • if he or a member of his household holds an executive or advisory post in the company,
  • if any other potential source of conflict applies (refer to the disclosures required of brokerage firms).

NYSE and NSAD Rules: Minimizing Research Report Bias

The following are the rules that aim to minimize bias in research reports released by financial analysts and brokerage firms. Make sure your brokerage firm and its financial analysts are not violating these prohibitions.

• A financial analyst may not go against his own (and recent) recommendations unless he absolutely has to (i.e. financial difficulties).
• A financial analyst and members of his household may not buy securities before they are offered to the public if the securities issuer belongs to the industry sector that the analyst covers.
• A financial analyst cannot be directly supervised by the brokerage firm's investment banking division.
• A financial analyst may not gain compensation (monetary or otherwise) from certain investment banking deals.

• Prior to the publication or distribution of a research report, a financial analyst may not discuss his report with or show his report to:

  • a member of his brokerage firm's investment banking division - unless this correspondence/discussion is monitored for compliance by his firm's legal department
  • a member of the company covered in the report - unless,
    • he's corresponding with the company to verify his facts, and
    • his communication with the company is closely monitored by his firm's legal department

• A financial analyst may not buy or sell securities covered in his research report

  • within the 30-day period prior to the distribution or publication of the research report, and
  • within the 5-day period following the release of this research report.

• A financial analyst may not release a research report on the securities his brokerage firm manages or co-manages:

  • 40 days following the securities' initial public offering, and
  • 10 days following their second public offering.

  Note: This rule aims to prevent brokerage firms and financial analysts from unfairly using their influence among investors to launch their investment banking clients' securities. With this rule in place, brokerage firms (and their financial analysts) cannot deliberately boost the sales of securities from which they stand to directly or indirectly profit.

  This rule also prevents brokerage firms and financial analysts from offering corporate clients a positive rating in exchange for an investment banking deal. The 40-day (as well as the 10-day) ban makes the promise of a favorable research report rating a lot less attractive to prospective investment banking clients. A positive research report is much more effective when it is released immediately after a public offering.

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