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Wall Street is Often Wrong at Turning Points: One more reason to invest for the long-term

April 23, 2013
Investing, Investments
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By Guest Contributor Nancy Tengler.

NerdWallet Investing recently published a study reviewing the effectiveness of Wall Street analyst recommendations.  The study found that 49% of their buy, sell or hold ratings were incorrect in 2012.  And, that was a pretty good year.  I am not here to knock analysts.  Their work is valuable to investors.  They dig into company financial and product details with fine-tooth- comb thoroughness that is impossible for individuals to replicate on their own.  But because of their overwhelming knowledge of what is and isn’t working at the company they are less likely to pull the trigger at turning points.

What is a Turning Point, Exactly?

The study also revealed that “analysts are better at identifying winners.”  Analyst buy recommendations were responsible for approximately 85% of all the accurate ratings measured in the study. Which is not at all surprising.  Wall Street is a momentum world where what worked yesterday will continue to work tomorrow.  Until it doesn’t.  Until a turning point.

Turning points occur at the tops and bottoms of stock price performance.  Take the stock everyone currently loves to hate:  Apple (AAPL).  In September 2012 when  the stock price reached its peak of $700 per share, Wall Street analysts loved the stock. Fifty analysts rated AAPL a buy, six ranked the stock a hold and two held sell ratings.  And we all knew the good news:  iPhone upgrades with no competition in sight, Apple TV on the way, iPad, iPad mini;  a revolution in computing that would drive AAPL growth and profit margins into infinity.  Since then the company earnings have come in light, competition entered with a bang and the stock has dropped to below $400 per share (bobbing above and below the four hundred level awaiting today’s earnings report).   And only one of those analysts has generated a positive return in the stock since the September decline.  That analyst shorted the stock in December and has achieved a total return of approximately 28%.  One out of the 58 analysts covering AAPL got the call right at a turning point.

The Value of Buy-and-Hold Thinking

Which is why we continue to focus on owning great companies for the long term.  When these companies stumble in delivering a new product or miss earnings expectations, Wall Street can punish the stock price for a long time (a buying opportunity if we are feeling particularly well-informed and clever).  One of reasons the hatred is so powerful is because of the very Wall Street analysts we’ve been discussing.  They don’t like being disappointed.  Especially when they have a buy rating on the stock.

So if you are the kind of investor who likes to see what Wall Street is saying about a particular company, be careful.  Look at the factual data they produce–they do outstanding work–but make your own decision about whether to buy, sell or hold the stock.  Chances are, you will achieve a better record at turning points.

That’s how you make money as an investor.