A telling quote from todays Newyork Times about a new rule instituted at Merrill Lynch. The rule says that analysts should have a 20% “underperform” stocks in their portfolio.

“I don’t think that is likely to change any more than you would expect human nature to change,” said Mr. Melcher, president of Balestra Capital.

Merrill Lynch, not surprisingly, disagrees with that view. Candace Browning, president of Merrill Lynch Global Research, says that her analysts’ work “serves an important function in the capital markets” and that the changes would make investing recommendations from the firm even more useful.

“What the new system basically does is it forces analysts to rank their stocks top to bottom,” she said.

I think the “forces analysts to rank” is going to just create a new set of issues. Whenever I have seen that there are rules that “forces” someone to do something, people just invent clever new ideas to comply but just in letter but not spirit. Trading current set of issues for a new set of issues, at best 😦

In my industry, there are managers who just keep the underperformers in their team forever. Just so they do not have to go search for other underperformers come next round of appraisals. So would analysts copy the same trick and keep underperforms consistenly so and thus creating a vicious circle for those stocks?