Heard Mentality (For Stock Buying)

Heard mentalityPHILEQUITY CORNER
By Antonio R. SamsonMonday, December 10, 2007

Many investors get their news secondhand, by hearing about it. Seldom dothey bother to read the papers or switch to Bloomberg (at least to mouth theclichés). And even then, media often present stories based on unconfirmedreports and anonymous sources.This "aural tradition" of keeping up to date feeds into our penchant forconspiracy theories. Anybody at a party can concoct a scenario; say on theimpact of the World Bank suspension of the road contract loan, on the creditrating of the country. There is no need to specify the source of the rumorsor cite the basis of the scenario moving forward. Think of thepossibilities of even a failed six-hour coup at a hotel lobby and thespeculations on the aftermath.We need only follow the information pipeline of a listed company to see howhearsay easily substitutes for reality. The company itself may promote acertain "story line"— maybe it is about growth premised on acquisitions, adiversification story to move away from a declining core business, aconsolidation theme with headcount being reduced and divisions closed orsold.The dominant theme is communicated to research analysts and investorsthrough the Investor Relations of the company concerned. The researchfindings may then rate the company as a "buy", "hold", "buy on weakness", or"sell". There may be other intermediary ratings (don't touch it with yourchildren's tuition money) which the research departments give their clients.The information chain does not end here as the heard mentality kicks in.Without delving into or even understanding the details of the research andthe caveats on the underlying assumptions, intermediaries will pass on toother bit players their flawed interpretation of the findings.The "hearsay effect" is particularly fertile in new listings as in recentIPO's. One has yet to meet anyone who has completely read the prospectus onthe new listings. The simple question of what the equity float will be usedfor (to open a new plant or just make existing stockholders' richer?) andthe PE ratios obtaining have led to short-lived up-ticks of new listings.This is followed by low volume and languishing prices. While hype is frownedupon, the admonition by regulators is limited to the unread prospectus.Hearsay is not covered by any rules, and can propound undocumented claims ofhow the pre-listing price is doing (clue: it is not lower than the IPOprice).Legitimate research organizations disclose the assumptions for theirrecommendations. They can even question official projections of next year'srevenues used as basis for the PE ratios justifying the IPO price.The routine use of intermediaries in disseminating news is no different fromhow social intercourse is conducted. Thus, an old-fashioned courtship relieson a cousin or best friend to get information on and entry into the heart ofthe intended. Influence peddling is but another variant of the intermediaryroute, although this is seldom on a pro bono basis. Mistresses and assortedrelatives are routinely used to gain access to favors and audiences.Barbara Tuchmann, the historian ("The Guns of August", "Distant Mirror")says that hers is an exacting discipline. In her essay on history, sheespouses the importance of documentation rather than rumor in establishingher narrative interpretation of historical events. Even the weather whichprovides the setting for a battle or a diplomatic meeting is not flimsilyestablished. More than one eyewitness account is used, and preferably,actual meteorological documents.The problem with relying on aural information lies with the reliability andobjectivity of the source and more important, an appropriate context for hisconclusions.It is no accident then that business reporting suffers from a form ofhearing impairment. Because media themselves often suffer from economicilliteracy, reports on financial performance ignore accounting reportsaltogether. Instead, the more accessible and easily understood (and heard)parts of a business story tend to be highlighted. These are the human anglesof rivalry and falls from power, cadged from ambush interviews after theformal report to stockholders and investors.The aural sect is not limited to the local scene. Even international hedgefunds and large equity ventures follow their own herds. Preferred economiesare lumped in acronymic hit lists like BRIC (Brazil, Russia, India, andChina). Now and then, we get into the abbreviated destination list under TIP(Thailand, Indonesia, Philippines).It is easy to test this theory of the heard mentality. One only has to listdown the news of the day he has gathered. He can then check his source. Theywill easily fall into the following categories: 1) It was a topic in abreakfast meeting where somebody overheard something significant; 2) It washeard on the radio with the commentator having strong feelings about it,pounding the table a number of times; or 3) It was Topic A at the gym fromsomebody's personal trainer.Even if one has actually read the morning papers, most of what he findsthere is not based on documentary sources. The authority cited is unnamed,with a quote not made for attribution (a person close to this officialsaid…). Even then, reading habits indicate that most people only readheadlines and maybe the first few paragraphs of the story. Seldom do theychase the details into the jump pages.And how do they fill in the missing details? They wait for somebody to tellthem. Thus even if a story is still making the front pages, if no one talksabout it, it might as well be dead. (Is anyone still talking about the blastat the mall or how supermarket bags are recycled for other uses?)In checking if a story is true, most are content with the ultimate test foraccuracy — "That's what I heard". Strange as it may seem, many are willingto put their money on a stock which they heard is going to double in twoweeks. This information is then passed on… making sure they buy the stockfirst.