The authors compared the robo-analyst recommendations to those of traditional analysts part of the Institutional Brokers’ Estimate System. They omitted holds in their long-term analysis as those recommendations are less actionable, according to Merkley.
Because robo-analysts don’t exhibit any biases and aren’t subject to conflicts of interest, they produce a more balanced distribution of ratings, the authors, who also included Braiden Coleman and Joseph Pacelli, claimed. Whereas traditional analysts actively work on maintaining relationships with company management, robots aren’t beholden to the same conventions. Their calls may not get the same pop as humans’ at first, but the recommendations can generate “substantial returns for individual investors,” they said.
Besides New Constructs, the researchers analyzed recommendations from firms including Minkabu, Rapid Ratings and TheStreet.com that overlapped with those of traditional analysts.
Out of the total pool of outstanding robo-analyst recommendations, more than 30% represented buy ratings compared with 47% from traditional analysts (the overall number of outstanding recommendations from traditional analysts was five times the robots’). About a quarter of recommendations from the machines fell into the sell category, compared with 6% from humans.
Traditional analysts have been under pressure recently -- machines have been doing a bigger share of the work while investors increasingly pile into passive funds. In the next decade, automation could reduce headcount on Wall Street and the banking industry by about 200,000, according to Wells Fargo Securities.
“What we’re seeing is that research budgets at these banks are being constrained, the value proposition of sell-side equity research is being reconsidered -- for us, this industry is ripe for disruption,” said Merkley. “Technology is one of those disruptions because you can do things probably at lower cost and greater scale.”
Robo-analysts differ from their better-known counterparts, robo-advisers -- shops like Betterment that use algorithms to provide automated financial planning services. But whatever their form, skepticism abounds on Wall Street. Opponents argue that machines are unable to parse nuanced discussions on earnings calls or have conversations with company management. New Constructs’ Trainer says the opposite is true -- robots can analyze huge amounts of data, including transcripts of conversations, at much faster paces.
But, “as long as there’s still people that need human interaction, that need to talk to management and talk about the industry and perform that function for the buy-side, the sell-side will still be around,” said Merkley.
This story provided by Bloomberg News.