Financial analysts look at data and make recommendations. If the person is a credit analyst, she will analyze bonds and bond issuers. It’s a job that requires a lot of digging, reading — and some good judgment.
HMW: With credit analysis, what you do is you get the financial statements going back over time and then try and figure out what the future looks like. So what are the cash flows? What kind of obligations do they have? You’d look at structures, so, do they have anything that ranks ahead of you if something goes wrong? What sort of asset quality do they have, if they were to be sold after a workout? Quite often what happens is a company goes bankrupt and they emerge from bankruptcy in a new form. The equity holders lose their money, but the bondholders and senior lenders end up owning the company. So what would it be worth?
The important thing as an analyst is to also review the documentation. So if it’s a bank loan you have to read the loan agreement. Loan agreements are usually a few hundred pages and they’re complicated and you can have 50 pages of definitions. And really the key is in the definitions because if it says “permitted liens” – what could rank ahead of you – well you have to read that and it could be two pages. So you have to put it all together. If it’s a bond, you have to read the trust indenture. And a lot investors don’t do that, but a good credit analyst should be reviewing all those documents and then coming up with their assessments of what’s the quality and what’s the downside risk.
Some of it is judgment. Some of it is all factual and then based on the facts you make a judgment. What’s it worth? But a lot of analyst don’t actually go as far as reading all of the documentation, and to us that’s a risk because really, the devil’s in the details.