Time for forensic financial analysts?
Recently there has been a spate of supposed frauds in stocks. While the veracity of whether a fraud has been committed or not is difficult to establish, the instances are increasing steadily. Recent examples include stocks like Vakrangee and Manpasand, which came as a pretty big shock to the holders. Institutional investors were large in these two names and generally, it is believed that the financial vetting done by institutional investors is along the lines of forensic investigation but it has since proved not to be the case. An earlier, classic example was Satyam Computers, where the promoter finally owned up to the fraud. But the more recent cases have seen vigorous defending by the managements that are slighted with hints of fraud. Auditors have now joined the fray, choosing to resign accounts rather than chance their name being associated with certain managements. Problem is that none of them have come out and said that something is wrong. Most of the time it is something quite wishy-washy- the worst one I have read is that auditors did not have time to travel to the North to inspect the plants of the company that they were auditing! Though I have mentioned only a few names of companies, readers know that there are scores of other stocks where financial impropriety abounds.
How does one protect oneself from such frauds? Ramdeo Agrawal whose fund owns a chunk of Manpasand admitted frankly that there was really not much one could do if a company is clever enough to camouflage the wrong doing. Is it because analysts are not really doing much of digging? Or is it because auditors are lax or perhaps even hand in glove with the managements? Is it because independent directors are not doing their job? Many times none of the people who know really want to rock the boat, so to speak, and allow the fraud to continue. Perhaps it is a combination of everything.
Exchanges have been trying various measures to control stock manipulation. But when big gains are involved, punitive margins are a mere pittance; circuit filters are minor annoyances; the recent ASM seems to be a stab in the dark. Shifting stocks thru various groups doesn’t seem to be really working. One of the basic factors that these measures don’t address is human greed- that is what the crooks in the market are really working on! There are simply too many suckers out there who fall victims to rumors, Sms or Whatsapp messages etc that it would be well nigh impossible for the markets to keep track and police.
This brings to mind a recent article I was reading on the Guardian website about Art Forgery and how it is becoming a big thing. Now everyone knows that art is big bucks- very big bucks! Forgeries can therefore be a good way to earn a living in that market- just like pump and dump artistes keep running various micro cap stocks whenever the market turns bullish!
The skill required to forge a master like a da Vinci is colossal but not so with say, a Modigliani. But detection is a fine art and these days, the detection has gone to a level where a forensic art analyst might resemble something like a Star Trek character with phasers and stun guns! Recently in Genoa, in a celebrated Modigliani exhibition, 20 out of 21 paintings were revealed to be counterfeits! That should show the extent of forging that is going on out there. Most art collectors (who pride themselves to be connoisseurs) are keener to simply possess and then brag that they are as much a sucker as the lay investor who falls prey to a micro cap pump-n-dump story. This prompted Thomas Hoving, the director of the New York Met museum to comment that “ I almost believe that there are as many bogus works as genuine ones!”
The extent of forging reached a point where it began to impact the bottom line of a reputed auction house like Sotheby’s and they took the unprecedented of buying out Orion Analytical, a conservation science lab in the US. This organisation even loans out its skills to the FBI for many art forgery investigations. In the last year, they have analysed more than $100 mn worth of artwork before they went under the hammer!
Holders of stocks like Satyam and Vakrangee and Manpasand have all come under tremendous flak after the allegations of fraud. With the instances of financial impropriety among companies growing and auditors preferring to sidle out fo the way rather than take a stance, it now seems that the time for some forensic analysts of finance to step up to the plate! Who knows, this might soon become a career path. After all, the fall in Manpasand and Vakrangee knocked the stuffing out of their market cap and all the holders could say that they were putting the stock ‘ under review’ or take it ‘off coverage’. Now that is absolutely of no aid for those who are losing money. The key will be to detect these kind of frauds ahead of time, like Orion Analytics does. For example, it looks at the pattern of the paint flaking depending on its age (apparently, they crack in different ways) and also examine for different chemicals used and whether those chemicals were indeed present at the time those paintings were created. What we perhaps now need is an approach that can similarly authenticate balance sheets and quarterly numbers and validate volume patterns and price action in a way that will unveil impropriety while it is being conducted.
Curiously, art forgery detection is not seen by most of the world as something worth pursuing seriously. This is because of a feeling that it is robbing the rich, almost a half complete Robin Hood work! That they make millions is seen as some kind of just rewards for the effort the forgers go thru to mimic the masters. Quite similarly, most of the common folk too are quite removed from stock scams- as it seldom has much to do with their normal lives. And it largely seems to impact those that were pulled into the scam because of their own greed- much like those Ponzi schemes of very high interest rate deposits. We read about them in the papers but nobody sheds even one tear for those who lose their life’s savings. But the losses are real. People buy a painting or invest into a Ponzi scheme with the money they have set aside for retirement or for their children’s education. When that money is lost, it is almost like losing your whole life!
So, it is time for an Orion Analytics for the markets as well, I would think.