In a world where fake news threatens to supplant the truth, telling one from the other is becoming increasingly tricky. So how do investment analysts ensure the information they gather is accurate?
There is an old saying that “a lie can travel halfway around the world while the truth is still putting on its shoes”, and this has never been more true than in the modern world of social media.
A 2018 study carried out by the Massachusetts Institute of Technology in the US found that falsehoods travel further, faster, deeper and more broadly than the truth on social media; on Twitter, for example, false news stories are 70% more likely to be retweeted than true ones, and it takes true stories about six times as long to reach 1,500 people as it takes for false ones to reach the same number.
These falsehoods are generally grouped under the heading of ‘fake news’, although the term has lost its original meaning since US President Donald Trump started using it to refer to any story he didn’t like (particularly those showing him in an unflattering light).
In fact, Counselor to the President Kellyanne Conway coined a new phrase, ‘alternative facts’. Traditionally, fake news was any untruth that was deliberately spread with the intention to mislead – often with a financial or political motive.
Russia has been accused of issuing state-sponsored fake news that enabled it to meddle in the US election. With social media being the easiest way to spread falsehoods, tech entrepreneurs like Facebook’s Mark Zuckerberg have found themselves defending their technologies.
Investing in truth
So what has all this got to do with the world of investment? Quite a lot, says Louis Jamieson, an equity analyst for Sanlam. “Let’s say I’ve bought some shares in a company, and because I own those shares, I want the price to go up,” he explains. “So if I spread a rumour that a larger company is going to buy it at a 30% premium, and people believe this, then suddenly the share price will go up, because it’s supposedly worth 30% more. And I make money – especially if I sell my shares at the new, higher price before everybody finds out the rumour wasn’t true.”
As an equity investment analyst, Jamieson spends his working life researching listed companies – specifically, looking for those that have been misvalued by the market and thus offer an opportunity to invest and make a profit for Sanlam’s clients.
He explains that it’s a three-part process: “The first thing is understanding what the business does – which is often more complicated than meets the eye. Then you look at the investment case: is the strategy they’re following one we think will be successful? And the last thing is the valuation: you might identify a company you think is fantastic, but if everyone else has also identified that, the price will be higher than it should be and it’s probably not worth investing.”
Given the amount of detail that this research involves, it’s not surprising to learn that he and his fellow analysts don’t base their decisions on what they read on social media. So what sources of information do they trust?
“The number one information source is what the company itself produces,” says Jamieson. “That includes audited financial statements, which are released quarterly, and company investor presentations. You can also talk to their investor relations teams and attend meetings where the management are speaking.
“Of course, the company in question will be presenting itself in a positive light,” he continues. “It wants analysts to recommend it so that our clients will buy their shares. They’ll never be dishonest – that’s illegal – but one way of checking whether they’re being overly positive about one aspect of the business and hiding negative aspects is to look at a competitor and see what they’re saying. If the general information the competitor is giving about the industry doesn’t tally, you can ask questions as to why that is.”
Jamieson’s second most trusted source of information is sell-side analysts. “I’m a buy-side analyst, which means investment decisions that I make go straight into portfolios for our clients,” he explains. “Sell-side analysts sell their ideas to people like me, and then they get paid on commission for trading. It’s a subtle difference, because we’re both looking at companies, but our aims and motivation can sometimes be different.”
Sell-side analysts are valuable because they tend to be more focused than their buy-side counterparts, specialising in a particular sector or country. This means they have a closer relationship with the companies they analyse, and a greater knowledge of industry dynamics.
But again, they have a natural tendency to paint a rosy picture. “Their motivation is to get you to trade,” Jamieson says, “so the information they give can sometimes be a bit sensationalist.”
The golden rule
As Jamieson says: “the thing about information is that you’ve got to understand the inherent biases involved. Every piece of information has biases, and you get closer to what you believe is the truth by understanding them.”
That’s particularly true when it comes to other information sources lower down the food chain. A good example is the popular website Seeking Alpha, read by millions of investors, which says it curates investment content from “a network of stock analysts, traders, economists, academics, financial advisors and industry experts”. Authors are legally required to disclose whether they own any of the stocks they write about, but even so, Jamieson says that when he reads the articles there: “I’m very, very careful to check everything they’ve said.”
Coming back to Twitter, he points out that rumours about companies do appear on social media, with severe consequences for those who transgress. In August last year, Tesla CEO Elon Musk (who has 22 million followers) tweeted: “Am considering taking Tesla private at $420. Funding secured.” The tweet started a trading frenzy, pushing Tesla’s share price up by more than 6% in a day.
The problem was that it wasn’t true. Musk explained afterwards that he was trying to trick investors who’d been short-selling Tesla shares (short-selling is complex, but it essentially involves profiting from a fall in the value of a stock). Nevertheless, it is illegal for companies and executives to give misleading information about potentially meaningful corporate events, and the US Securities and Exchange Commission duly fined Musk and banned him from serving as an executive or board member of any public company.
Face to face
So if you can’t believe the CEO of one of the world’s biggest technology companies, who can you trust? Jamieson suggests that the answer lies in getting out from behind a desk and meeting people. “I find it very useful to visit companies,” he says. “Seeing a factory or plant brings a company to life, much more so than just reading about it. If they’re willing to show you around and talk face to face, you learn a lot.”
Similarly, he spends time travelling to industry conferences, hearing from specialists who don’t have an axe to grind and learning about the latest trends. “In terms of inspiration, it’s good to get out and talk to people and see what else is going on,” he concludes. “After all, you don’t want to be stuck in the office the whole time.”