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1 March 2018 Financial Analysts Journal

Assessing the Worth of the CFA® Program (Summary)

  1. Phil Davis

This In Practice piece gives a practitioner’s perspective on the article “Sell-Side Financial Analysts and the CFA® Program,” by Qiang Kang, Xi Li, and Tie Su, CFA, published in the Second Quarter 2018 issue of the Financial Analysts Journal.

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What’s the Investment Issue?

How does the CFA designation impact the performance of sell-side analysts who make stock recommendations?

The question is important to the investment industry, for which sell-side stock recommendations form part of the stock analysis and selection process. It is also of importance to markets, which are dependent on the accuracy of the price discovery process.

The question concerns regulators, who bear some responsibility for the creation of well-functioning markets with efficient price discovery.

Not least, the issue is of considerable concern to sell-side analysts themselves—and to investment professionals more widely—who must commit substantial time to learning the CFA Program curriculum and studying for the exams.

It is surprising, then, that there is so little evidence about the effects—beneficial or otherwise—of the CFA Program. The authors filled this void by investigating how a CFA designation affects the performance and career outcomes of sell-side analysts.

How Do the Authors Tackle the Issue?

First, to see if the CFA Program improves investment predictions, the authors analyse the recommendations of around 9,900 sell-side analysts between 1993 and 2015. This is a considerably longer dataset than that used in previous, comparable studies. The authors divide the period into two (1993–2000 and 2001–2015) to see if the regulation relating to analysts enacted after 2000 would skew performance.

For each analyst, the authors create a recommendation portfolio, which comprises long positions in stocks that the analyst rated 1 or 2 and short positions in stocks that the analyst rated 4 or 5. The authors then calculate equal-weighted returns for each portfolio. The recommendation portfolio is believed to be a better proxy for performance than the analysis of earnings forecasts used in previous studies.

Second, career progression is measured by how many times an analyst was included in Institutional Investor’s All-America Research Team. Becoming an All-America Research Team analyst is widely considered a measure of successful performance, meriting better chances of promotion and higher pay.

Unlike previous research, this study addresses selection bias by taking into account that candidates who study for CFA exams may have greater innate ability than those who do not study for them. The authors also attempt to control for the effects of differences in the quality of investment firms, such as strong culture and large available resources, on the performance and career path of analysts.

What Are the Findings?

The authors find that of the 9,843 analysts whose performance was evaluated, 3,386 of them (about a third) are CFA charterholders. Since there are no requirements for analysts to be formally certified, the authors consider that this fact alone provided anecdotal evidence that the CFA Program offers benefits to analysts and their employers.

More concretely, the authors find that the recommendation performance of CFA charterholders improves by about 4.7% a year in terms of abnormal returns, based on the recommendation portfolios. There is also a 0.058 improvement in the information ratio, a measure of risk-adjusted return.

The probability of CFA charterholders being voted on to Institutional Investor’s annual All-America Research Team also increases, by around 2.0 percentage points, which represents an increase in probability of nearly a fifth as compared with noncharterholders. Being an All-America Research Team analyst often leads to greater career opportunities, such as internal and external promotions, and increases an analyst’s profile within the industry.

The effects of a CFA designation on performance and career prospects are found to be more or less equal in both time periods evaluated, so increased regulation post-2000 does not have a material impact.

What Are the Implications for Investors and Investment Professionals?

The analysis reveals that being a CFA charterholder benefits an analyst in terms of performance and career outcomes.

This has practical importance, not least for analysts or would-be analysts thinking of becoming CFA Program candidates. They have to decide: Is this for me? Implicit in this decision is the willingness to undertake the 300+ hours of preparation for each level of the CFA Program via a challenging, self-study curriculum and accrue four years’ work experience in the investment decision-making process. With evidence that the CFA Program, on average, improves career outcomes, they may be more willing to make the necessary sacrifices.

But the findings also have industrywide implications. According to CFA Institute, regulators, colleges, and certification programs in more than 30 countries/territories view the CFA charter as filling the gap left by the absence of mandatory qualifications. In some countries—including the United States, the United Kingdom, and Singapore—the CFA designation is viewed by regulators as a mark of competency. Some investors are arguing for regulation to go further and for the CFA Program to become a licensing requirement. For this to happen, policymakers must determine whether the program empirically improves analysts’ competency. This study provides policymakers with useful evidence.

The obvious limitation of this study is that it focuses solely on the sell side and does not assess the performance of buy-side analysts. A further limitation is that it focuses on US analysts only, so the effects on performance of CFA charterholders outside the United States remain unknown.

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