There are several types of analysts on Wall Street, and they produce different kinds of reports because they have different kinds of clients. Let's take a look at the different responsibilities required for each analyst, so that you can do your own litmus test to see which ones you need to pay attention to.

Sell-Side Analysts
These are the analysts that are dominating today's headlines. They are employed by brokerage houses to analyze companies and write in-depth research reports, conducting what is sometimes called primary research. These reports are used to "sell" an idea to individuals and institutional clients. Individual investors gain access to these reports mainly by having accounts with the brokerage firm. For example, to get free research from Merrill Lynch, you need to have an account with a Merrill Lynch broker. Sometimes the reports can be purchased through a third party such as Institutional clients (i.e. mutual fund managers) get research from the brokerage's institutional brokers. (Keep reading about fund managers in Should You Follow Your Fund Manager? and Choose A Fund With A Winning Manager.)

A good sell-side research report contains a detailed analysis of a company's competitive advantages and provides information on management's expertise and how the company's operating and stock valuation compares to a peer group and its industry. The typical report also contains an earnings model and clearly states the assumptions that are used to create the forecast.

Writing this type of report is a time consuming process. Information is obtained by reading the company's filings for the Securities & Exchange Commission, meeting with its management and, if possible, talking with its suppliers and customers. It also entails analyzing (using the same process) the company's publicly-traded peers for the purpose of better understanding differences in operating results and stock valuations. This approach is called fundamental analysis because it focuses on the company's fundamentals. This is a rigorous and time-consuming process that limits a typical sell-side analyst specializing in two or three industries and covering about 10-15 companies, depending on the number of sectors he or she follows.

The challenge facing the brokerages is that it's extremely expensive to create all this research. Brokerages must recover the costs of paying sell-side analysts from somewhere, but deregulation has significantly reduced the ability to make a profit at anything except investment banking deals. The main result of these "forces" is that research departments cannot research any companies that do not have a potential investment bank deal of about $50 million or more. This leaves thousands of great companies without research. Couple this with the fact that research departments drop coverage rather than issue "sell" reports, and you'll get the perception that analysts only issue "buy" recommendations. (To read more on this, see Why There Are Few Sell Ratings On Wall Street and Stock Ratings: The Good, The Bad And The Ugly.)

Buy-Side Analysts
Buy-side analysts are employed by fund managers like Fidelity and Janus, as well as pension funds. Like the sell-side analysis, the buy-side analyst specializes in a few sectors and analyzes stocks to make buy/sell recommendations; however, the buy-side differs from the sell-side in three main ways: they follow more stocks (30-40), they write very brief reports (generally one or two pages), and their research is only distributed to the fund's managers.

Buy-side analysts can cover more stocks than sell-side analysts because they have access to all the sell-side research. They also have the opportunity to attend industry conferences, hosted by sell-side firms. During these conferences, the managements of several companies in a sector present why they are a better investment. After gathering this information, buy-side analysts summarize their case in a brief report that also contains an earnings forecast. These reports are only distributed to the fund's managers.

The sell-side provides research and conferences to the buy-side in the hopes that the buy-side will let them execute the large trades that the funds make when they act on the recommendation provided by the sell-side. Having access to the sell-side's primary research and the ability to attend industry conferences allows the buy-side analyst to follow many more stocks than a sell-side analyst. To compensate the firm for this information, the funds will buy and sell stocks with the brokerage firms that provide the best information.

Independent Analysts
Independent analysts are practitioners who are not employed by either brokerage firms or mutual/pension funds. "Indies", as they are sometimes called, are firms established to provide research that is "untainted" by investment banking deals.

Some Indies focus on serving institutional clients and are paid a fee to follow certain stocks and/or to find new ideas that the sell-side is missing. In some cases, these institutional Indies have a relationship with a brokerage firm and are compensated by trades given to them by the funds. Sometimes it is a fee-only arrangement.

Other Indies provide their research to both the institutional and individual investors. These firms may provide their research on a subscription basis or for free. In either case, it is important to understand the nature of the relationship between the research firm and the company that is being analyzed (generally called the "Subject Company"), even if the report is not free.

Every research report is required to have a section called the disclaimer that discloses, among other things, the nature of the relationship between the research firm and the subject company. Every major brokerage firm and every Indie must provide this information. This disclaimer generally appears at the end of the report and is in small type. In it, the research firm must disclose if and how it is compensated for providing research. For example, major Wall Street firms will disclose that they provided investment-banking services to the subject company. Some indies will accept stock or other forms of equity as payment for their services. Other Indies will only accept a cash only fixed-fee.

Analyst Objectivity
The objectivity of research reports is a major question, one that is now asked of both the large Wall Street firms as well as the Indies. Is Wall Street research objective? Can an indie provide an objective research report if it is paid by the subject company? These are difficult questions to answer without reading the disclosure and the report and knowing something about the firm and the analyst. Just like on Wall Street, some indies strive to meet a higher standard of ethical conduct while others just try to manipulate stocks. But it is your responsibility to understand and evaluate this information.

Indies play an important role in today's market by providing research on small/micro cap stocks that are ignored by traditional brokerage research departments. Wall Street has become myopic, focused on big cap stocks and pleasing big institutional investors. This has resulted in the majority of stocks becoming "orphans" despite their investment potential. Indies attempt to bridge this information gap by providing research on stocks Wall Street has orphaned. While the Internet revolution has increased the ability of individual investors to do their own trades and research, it takes time and experience to do a thorough job. Legitimate indies take the time to provide useful information. It is up to you to judge its worth.

Related Articles
  1. Investing Basics

    Analyst Recommendations: Do Sell Ratings Exist?

    Analyst reports can be an investor's best friend - but without knowing how to read them, you won't be able to fully utilize them.
  2. Investing Basics

    What Is The Impact Of Research On Stock Prices?

    The answer to this question is directly related to the importance of information in the marketplace.
  3. Professionals

    Quants: The Rocket Scientists Of Wall Street

    Blend math, finance and computer skills to command a high - and well deserved - salary.
  4. Options & Futures

    Fee-Based Research: The Good, The Bad And The Ugly

    Providing information on stocks that would otherwise not be available, fee-based research plays an important but complicated role in the market.
  5. Retirement

    Stock Ratings: The Good, The Bad And The Ugly

    Stock ratings are both loved and reviled. Find out why they deserve equal measures of both.
  6. Investing

    Return on Brokerage Client Assets: A Look at Morgan Stanley

    Revenues and profits in securities brokerage and wealth management are driven by the return on client's assets. We explain how to derive this metric.
  7. Fundamental Analysis

    Have Big Banks Turned A Corner?

    Five out of the top six banks in the United States reported an increase in profits this earnings season. Does this mean that big banks stocks are out of the woods?
  8. Economics

    What is a Syndicate?

    A syndicate is a group of professionals that temporarily form into one entity to handle a large transaction that’s too big for each to handle alone.
  9. Stock Analysis

    The Top Financial Services/Banking Stocks of 2016

    These financial services and banking stocks offer the best potential in 2016 for those with a long-term outlook.
  10. Stock Analysis

    3 Popular Financials Stocks in 2015 (WFC, COF)

    Find out about some of the popular financials stocks in 2015, why they have become popular and whether they will remain popular going forward.
  1. What is securitization?

    Securitization is the process of taking an illiquid asset, or group of assets, and through financial engineering, transforming ... Read Full Answer >>
  2. How does investment banking differ from commercial banking?

    Investment banking and commercial banking are two primary segments of the banking industry. Investment banks facilitate the ... Read Full Answer >>
  3. What types of companies hire a chartered financial analyst (CFA)?

    The Chartered Financial Analyst, or CFA, program is a professional certification awarded by the CFA Institute. CFA candidates ... Read Full Answer >>
  4. What's the difference between investment banks and commercial banks?

    Investment banking and commercial banking are two divisions of the banking industry that provide substantially different ... Read Full Answer >>
  5. What are the major categories of financial institutions and what are their primary ...

    In today's financial services marketplace, a financial institution exists to provide a wide variety of deposit, lending and ... Read Full Answer >>
  6. Who facilitates buying and selling on the primary market?

    There are several important actors that facilitate buying and selling on the primary market, the home of initial public offerings ... Read Full Answer >>
Hot Definitions
  1. Flight To Quality

    The action of investors moving their capital away from riskier investments to the safest possible investment vehicles. This ...
  2. Discouraged Worker

    A person who is eligible for employment and is able to work, but is currently unemployed and has not attempted to find employment ...
  3. Ponzimonium

    After Bernard Madoff's $65 billion Ponzi scheme was revealed, many new (smaller-scale) Ponzi schemers became exposed. Ponzimonium ...
  4. Quarterly Earnings Report

    A quarterly filing made by public companies to report their performance. Included in earnings reports are items such as net ...
  5. Dark Pool Liquidity

    The trading volume created by institutional orders that are unavailable to the public. The bulk of dark pool liquidity is ...
Trading Center