Curse of the covers

Investors taking tips from stories that make it on to the cover of magazines like 'BusinessWeek' can all too often find that such exposure marks a turning point in companies' fortunes, writes Proinsias O'Mahony

Legend has it that Joe Kennedy, father of JFK and a savvy market speculator, cashed in his shares just prior to the 1929 Wall Street crash, saying "you know it's time to get out when the shoeshine boys start giving you tips". Shoeshine boys are no longer with us, but new research suggests there is a modern day contrarian equivalent - magazine covers.

It's no joke. Contrarian investors who like to go against the crowd have long argued that the magazine cover indicator, as it is known, is one of the most reliable tools for forecasting major trend changes.

Markets attempt to anticipate and discount the future, whereas the media, looking to sell "hot" stories, react to it. Accordingly, their coverage of a major investment theme tends to indicate that all the good or bad news is already in the price.

That's the theory anyway and it has been borne out by a group of finance professors from the University of Richmond in Virginia.

In a paper entitled Are Cover Stories Effective Contrarian Indicators?,the researchers looked at 549 cover stories from three respected business magazines ( Business Week, Forbes and Fortune) over a 20-year period. They then went on to analyse how the shares of the featured companies had fared in the 500 days before and the 500 days after publication date.

Unsurprisingly, the companies that had received the most positive coverage had been top performers before the stories were published, outperforming the market index by 43 per cent. Negative coverage tended to be reserved for stocks that had been the market's punch-bags, with those companies underperforming by 35 per cent.

A reversal of fortune occurred after the stories appeared, however. The high-fliers' period of outperformance ended and the maligned stocks went on to handsomely beat the market. As the authors put it, "positive stories generally indicate the end of superior performance and negative news generally indicates the end of poor performance".

The research from the Richmond professors is but the latest to confirm that slavishly following media enthusiasm may be bad for your wealth. The magazine cover indicator was first proposed over 20 years ago by Paul Macrae Montgomery, an American fund manager and market analyst. His analysis of every Time magazine cover story since 1923 led him to declare that "whenever a lay periodical has a cover story, it's been significant 85 per cent of the time".

More than one commentator has pointed out that Time'sannual Person of the Year award is to be dreaded rather than coveted. In his book Practical Speculation, legendary hedge fund manager Victor Niederhoffer pronounces it to be a "hubristic curse" and points out that the award has gone to companies or chief executives on six occasions, with the winning company's stock going on to suffer an average decline of 10 per cent in the next two years versus an average gain of 20 per cent for the S&P 500 for the same two-year periods.

The most recent and spectacular example was the awarding of the gong to Amazon's Jeff Bezos in 1999. The stock topped out at $113 (€84) soon after, sliding all the way down to $5.51 in 2001.

Amazon did eventually crawl out of the dotcom wreckage, which is more than can be said for Fran Rooney's Baltimore Technologies, winner of Irish magazine Business & Finance'sBusiness Person of the Year award in 2000. That same year saw Elan garner the plaudit of Company of the Year from the same magazine. Question marks over accounting procedures and profit warnings saw Elan's share price collapse by 95 per cent within 18 months, while Baltimore subsequently became one of the most high-profile victims of the dotcom crash.

Still, Business & Financecan claim that 2000 was an unfortunate fluke and that other winners enjoyed better fortunes. US publication Business Week, has such an awful history of wrong calls that "sell when Business Week'scover says buy" has become a Wall Street maxim.

From famously proclaiming "the death of equities" in 1979 to announcing the dawning of "the internet age" in December 1999, Business Weekhas got itself a reputation as a contrarian gold mine. The magazine itself has even made reference to the "Business Week curse" and its reputation for "jumping on bandwagons before they fall off a cliff".

Particularly untimely was their cover photo of Enron chief executive Jeffrey Skilling in February 2001. Praising Enron's "entrepreneurial culture and strict risk management controls", the cover article described Skilling as a "true believer" and seemed to accept that Enron were "the good guys" engaged in a "holy war on inefficiency". Skilling was soon to resign for "personal reasons" and Enron imploded in the biggest bankruptcy in corporate history.

As economist Paul Krugman famously put it: "Whom the gods would destroy, they first put on the cover of Business Week."

Unsurprisingly, Business Weekfeatures prominently in our list of classic contrarian covers. Of course, it's easy to point to occasions when the magazine cover indicator works, but magazines won't always get it wrong. Quite simply, some covers tend to be more significant than others. Calm covers and mild recommendations are less likely to set contrarian pulses racing than the more emotionally intense covers that depict raging bulls and growling grizzly bears.

Secondly, a confluence of histrionic covers is a giveaway that a turnaround is in sight. The rash of doom-laden covers that appeared in the summer of 2002 was a clear indicator that the global bear market in equities was in its dying spasms.