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The Usual Suspects: A Primer on Investment Banks' Recommendations and Emerging Markets

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  • Sebastián Nieto Parra
  • Javier Santiso

Abstract

The paper addresses two core questions: do investment banks’ recommendations have an impact on the allocation of portfolio flows in the emerging-markets asset class? Above all, are these recommendations related to the business of investment banks? In order to answer these questions, we constructed a unique database covering the period 1997-2006 for all the bond recommendations made by the major investment banks that dominate the emerging bond markets. The most important findings are as follows: 90 per cent of the underwriters recommend buying or maintaining in their portfolios the bonds issued by the countries where they are acting as lead managers; and investment banks’ recommendations are also correlated with the relative size of the secondary bond market. In fact, there is a phenomenon that we call “too big to underweight” meaning that investment banks do not send negative signals to investors of countries that, given their size, are considered important for their business. Finally, by using panel data analysis, we found that the impact of investment banks’ recommendations on portfolio capital flows is more significant and more predictable than some macroeconomic variables such as interest rate, economic growth and inflation rate. The first of the three major policy lessons at stake is that there is a need for more detailed information disclosure by investment banks in order to determine if past recommendations are related to macroeconomic variables and financial variables or whether they are associated with the investment banks’ business in emerging economies. Second, government agencies should do a strategic monitoring on what market is writing about their respective country vulnerabilities. Finally, given that banks’ recommendations and portfolio flows are related, an international co-operation scheme could be established to encourage investment banks to cover more countries. L’article pose deux questions clés : est-ce que les recommandations des banques d’investissement ont un impact sur l’allocation de portefeuille dans les économies émergentes ? Avant tout, est-ce que ces recommandations sont liées aux activités de ces banques ? Dans le but de répondre à ces questions, nous avons élaboré une base de données riche et unique qui couvre les recommandations réalisées par les banques d’investissement sur les obligations souveraines des pays émergents pendant la période 1997-2006. Les plus importants résultats sont : 90 pour cent des underwriters recommandent aux investisseurs l’achat ou le maintien des titres émis par les pays où ils ont été les lead managers. De plus, ces recommandations sont corrélées avec la taille relative du marché secondaire de chaque pays. En fait, il existe un phénomène que nous nommons « très grand pour sous pondérer » dans le sens où les banques d’investissement n’envoient pas de signaux négatifs aux pays, qu‘en raison de sa taille, ils exercent une importante activité. Finalement, suite à une exploitation des données de panel, nous constatons que l’impact des recommandations des banques sur les flux des capitaux est plus significatif et prévisible que quelques variables macroéconomiques telles que le taux d’intérêt, la croissance économique et le taux d’inflation. Les implications de ces résultats en termes de politique sont considérables. D’abord, il serait nécessaire d’obtenir un détail plus important des recommandations de ces institutions dans le but de déterminer si elles sont liées à des variables économiques et/ou financières ou au contraire si elles sont associées à leurs activités dans ces économies émergentes. Ensuite, les gouvernements devraient réaliser un suivi stratégique de ce que le marché commente concernant les vulnérabilités du pays. Finalement, puisqu’il existe une relation entre recommandation des banques et flux des capitaux, une coopération internationale devrait être établie pour encourager les banques d’investissements à accroître la couverture de ces pays.

Suggested Citation

  • Sebastián Nieto Parra & Javier Santiso, 2007. "The Usual Suspects: A Primer on Investment Banks' Recommendations and Emerging Markets," OECD Development Centre Working Papers 258, OECD Publishing.
  • Handle: RePEc:oec:devaaa:258-en
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    File URL: http://dx.doi.org/10.1787/243333743053
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    References listed on IDEAS

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    Citations

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    Cited by:

    1. Sebastián Nieto-Parra, 2009. "Who Saw Sovereign Debt Crises Coming?," ECONOMIA JOURNAL, THE LATIN AMERICAN AND CARIBBEAN ECONOMIC ASSOCIATION - LACEA, vol. 0(Fall 2009), pages 125-169, August.
    2. Hans J. Blommestein & Javier Santiso, 2007. "New Strategies for Emerging Domestic Sovereign Bond Markets," OECD Development Centre Working Papers 260, OECD Publishing.
    3. Sebastián Nieto Parra & Javier Santiso, 2008. "Wall Street and Elections in Latin American Emerging Economies," OECD Development Centre Working Papers 272, OECD Publishing.

    More about this item

    Keywords

    emerging markets; information; investment banks research; portfolio flow; primary bond market;

    JEL classification:

    • F32 - International Economics - - International Finance - - - Current Account Adjustment; Short-term Capital Movements
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G24 - Financial Economics - - Financial Institutions and Services - - - Investment Banking; Venture Capital; Brokerage

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