Most of the stocks that were hotly tipped by analysts at the start of 2018 ended up having a pretty poor year, according to AJ Bell research, while most of companies with negative outlooks went on to outperform.
After markets struggled last year because of worries such as trade wars, monetary tightening and Brexit, platform AJ Bell found that the research written by analysts at the leading investment banks and broking firms failed to identify the winners and losers.
Russ Mould, investment director at AJ Bell, said investors should be wary of placing too much faith in the stock tips issued by these analysts.
“Granted, this is primarily intended for institutional investors but it is possible to find a summary of how many analysts cover a stock and how many rate the stock a ‘buy’, ‘sell’ or ‘hold’ and this can be a way for retail investors to at least narrow down an index as broad-ranging as the FTSE 100,” he said.
Price performance of stock vs index over 2018
Source: FE Analytics
“However, a back-test of the data on the most and least popular stocks at the start of 2018 suggests that this research needs to be treated with kid gloves.”
A good example of this British American Tobacco, whose 2018 performance is shown in the above chart. The company was the worst performer on the FTSE 100 last year after investors dropped the stock when the US Food and Drug Administration proposed a ban on menthol cigarette sales; sales of menthol cigarettes in the US make up around one-quarter of the company’s bottom line.
Of course, this event couldn’t have been predicted but AJ Bell’s research shows that 94 per cent of analysts had a ‘buy’ rating on British American Tobacco at the start of 2018.
The 10 most-tipped FTSE 100 stocks of 2018 can be seen in the below table, along with how well they performed over the course of the year.
Mould said: “As if to reinforce US investor Jim Rogers’ view that ‘The more certain something is, the less likely it is to be profitable’, the 10 FTSE 100 firms which last January attracted the highest percentage of ‘buy’ ratings among the analysts did even worse than the 12.5 per cent capital loss generated by the index overall in calendar 2018.”
Source: Webfg, Broker Forecasts, Refinitiv data
Only one of the 10 rose in value: pharmaceutical stock Shire, which rallied after it was bought by Japan’s Takeda Pharmaceutical for $62bn. It was the biggest acquisition announced in 2018.
What’s more, the stocks that analysts most actively disliked did marginally less badly than the FTSE 100 in 2018, as can be seen in the below table.
Source: Webfg, Broker Forecasts, Refinitiv data
“While it is tempting to cut analysts some slack by noting that 2018 was a tough year, this is the fourth time we have conducted this analysis – and the analysts’ combined top picks fared no better than the benchmark index in 2015, 2016 or 2017,” Mould added.
“This is not to gratuitously kick the analysts when they are down. But it does suggest that the real value of broking research lies not with the recommendations but with the industry analysis and distillation of the key company issues that it provides.
“It can give retail investors a framework that summarises current market knowledge of a stock, what factors may influence it and – perhaps most importantly, for the short term at least – consensus forecasts.”
With this in mind, below are the FTSE stocks with the highest percentage of ‘buy’ and ‘sell’ ratings from analysts at the start of 2019.
Source: Webfg, Broker Forecasts
Mould concluded that whether investors do further research on these companies or avoid them completely depends upon their view of the value of such analysis in the investment decision-making process.
However, he pointed out that anyone choosing to pick their own stocks rather than outsource this to a fund manager or index-tracker has to thoroughly research any company before buying it. To help with this, he suggested following the advice of Charlie Munger, Warren Buffett’s vice-chairman at Berkshire Hathaway.
Munger says investors have to ask four questions when considering buying a company:
• One, do you understand the business?
• Two, does the business have intrinsic value or durable competitive value?
• Three, does management have integrity?
• Four, does the stock come at a reasonable valuation?
“If an investor likes what they see, they should not be put off just because they are out of step with consensus – they may have unearthed a nugget of value, assuming the stock passes the first three of Munger’s tests,” Mould said.
“Then they may be heeding Warren Buffett’s maxim that ‘You can’t buy what is popular and do well’.”