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Reality of window-dressing

TOWARDS the end of last week as the first quarter drew to a close, there was a large push on the shares of the three local banks. On Wednesday 27 March, UOB shares shot up 53 cents or 2.6 per cent to $20.58, DBS jumped 23 cents or 1.5 per cent to $15.95 and OCBC surged 15 cents or 1.4 per cent to $10.57.

These gains added 18 points to the Straits Times Index (STI), which on that day finished 24 points stronger at a fresh three-year high of 3,313.03. Three stocks were therefore responsible for 75 per cent of the index’s jump.

When dealers were asked about the movement, replies were unanimous – the sudden, coordinated nature of the buying strongly suggested quarter-ending window-dressing.

What exactly is window-dressing? According to one online dictionary, it is: “buying or selling near the end of a quarter or fiscal year by institutional investors to make the appearance of reported portfolio results look as if they are better than the actual results”.

Another says: “Institutions report results quarterly. At the end of a quarter their holdings are included in a report that goes out to the investors. To look good, institutions buy stocks that have gone up and sell those that have gone down, a process called ‘window dressing’. Window dressing can cause short-term volatility in the last days of a quarter, creating buying and selling opportunities for astute investors.”

Is the activity illegal? Although it has not been openly discussed here, we would say it certainly conveys a false impression of genuine demand when the buying was actually motivated by a need to prop prices up at particular levels to achieve certain objectives.

In short, window-dressing is a short-term, cosmetic exercise that results in the creation of a false impression – in last Wednesday’s case, for example, a 24-point jump in the STI to a three-year high suggests a very strong day but this can be disputed by the fact that there were 183 falls against 290 rises throughout the whole market.

If a false impression is the outcome, it isn’t really a stretch to equate it with a false market. Moreover, in addition to the false market dimension, according to the Wall Street Journal’s MarketWatch report last December, another problem with window-dressing is that it distorts fund performance and could lead to higher fees when they are not justified.

“A sweeping investigation by The Wall Street Journal found that fund managers regularly bid up stocks they held in the last trading day before the end of the month,” said MarketWatch.

“Those mutual funds are charging you front-end, back-end... and other fees? They can’t even beat the market. In most studies, fewer than 20 per cent of funds beat the indexes they aim to. In 2011, just 16 per cent of stock funds met or exceeded the returns of the indexes they tracked, according to S&P Indices.” Worse is that many of those funds may actually be lagging their indexes on all but on the last trading day of the month, said MarketWatch.

So apart from a false impression/market on the day of the activity itself, this kind of last-minute portfolio pumping conveys a false impression of superior performance when there may have been none.
Note in this connection that in last week’s case involving the three banks, although the STI recorded a 4 per cent rise for the first quarter, bank gains for the first three months of 2013 were: UOB 4 per cent, DBS 7.5 per cent and OCBC 8.6 per cent. So a fund which was heavily invested in banks would have been able to report that it comfortably beat the index, or to use industry jargon, that it beat the market.

There have been dozens of similar incidents over the years – odd, last-minute and large pushes – on the Jardine group, for example – are often highlighted by dealers as being particularly influential in moving the index at the end of quarters or sometimes, months.

The really interesting question is this: how should regulators tackle this problem?

Or is this one of those necessary market evils that everyone has to learn to live with – after all, as some might argue, if everyone knows that this sort of fake buying happens at the end of significant periods, then nobody is really fooled, in which case it’s OK to let it pass?