How the Equity-Research Sausage is Made

You can’t argue with Carl Bialik when he says,

apropos iPhone

sales, that "conducting a flawed survey can be worse than not conducting

a survey at all". He’s talking about the method that Piper Jaffray analyst

Gene Munster used to estimate that half a million iPhones that

Apple sold in its first weekend: standing in a flagship Apple Store, counting

the number of iPhones sold in some given period of time, and extrapolating.

Munster is suitably sheepish, now:

“We definitely overshot,” Mr. Munster said, adding: “The

part we’re definitely guilty of is building an estimate from three people

visiting three stores over a three-day period.” He projected those sales

to hundreds of other Apple stores and nearly 2,000 stores for AT&T, the

only carrier to offer the iPhone.

The three stores Munster and his colleagues visited? New York, San Francisco,

and Minneapolis, in the Mall of America. It never seems to have occurred to

Munster that Apple would ship more units to its flagship stores, especially

in media-heavy New York and San Francisco, than it would have allocated to the

Apple Store in Lyndhurst, Ohio, or some random AT&T store in Nebraska.

For every Gene Munster who comes clean, however, there are dozens of highly-paid

equity analysts who will never admit how sketchy their research reports really

are. And it’s not just analysts, either, who are guilty of massive oversimplification:

the risk controls at small US banks, I know, are often laughably simplistic.

(When trying to work out what would happen to their balance sheet in the event

of a sharp drop in interest rates, for instance, they’re liable to simply ignore

the fact that a lot of customers with fixed-rate loans would be likely to refinance.)

This is one of the reasons why academic papers are invaribly more interesting

than Wall Street reports. They show not only their conclusions, but also how

they reached those conclusions. If Wall Street had to do that, I fear it would

lose a great deal of credibility.

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