Monday, July 16, 2012

If It Walks Like a Duck, It's Non-Public Information

In this piece Gretchen Morgenson writes about some large quant shop investors (hedge funds and otherwise) distributing surveys to Wall Street analysts.  The surveys seek to suss out information that these investors can use to make better decisions, particularly as it pertains to earnings estimate changes.

The survey developers defend their information gathering by pointing to acknowledgements that respondents must not use non-public information to answer the survey. 

Silly argument.  On two fronts.

First, producing the surveys has a cost.  Analyzing the surveys has a cost.  Blackrock and others have chosen to spend money to obtain the survey results.  Therefore, they believe the surveys have value in excess of cost.  You may not be perfectly rational, but these organizations are pretty darn close.  They don't spend for fun.  Survey results with only publicly available information could not have value by a weak(ish) efficient markets argument.  Or, by "revealed preference", Blackrock must obtain information valuable enough to justify the expense.  (In a nutshell, revealed preference theory says if you made the decision, it must be the optimal decision because you're rational.)

Second, asking someone to make a decision excluding part of their brain is...dumb?  If by definition an analysts view about what she might do in the future is non-public information, they you cannot ask her a question that excludes that knowledge!  

Here's an example. Suppose I am a Wall Street analyst (God help us all!) and I know my estimate of Groupon's earnings will come down when I re-work my numbers next week.  This is non-public information.  Now, assume I believe I am right.  (One of the great innovations of the dot com bubble: We now assume analysts believe what they say because they sign a statement saying they believe what they say!!)

If I believe I am right, then I also believe other analysts' estimates will fall too.  But, that opinion about public information (what others might do) is rooted in my knowledge of my non-public information.  I can't ignore it.

When the CEO of Blackrock appears before Congress, here are the simple questions:  Did producing the surveys have a non-zero cost?  Where you compelled by someone else to produce the surveys?  Did you produce the surveys more than once?

But, what's the goal here?  A fair and orderly market or a brain dead, perfectly level playing field where a dilettante with an IRA is legally entitled to the same investment returns as a PhD with a super computer?