Analysis of consensus upgrade stocks by domestic brokerage firm suggests that roughly 55 percent of stocks have outperformed the market.
When it comes to equity markets, striking gold is hard. But if someone follows this simple strategy — invest in stocks where analyst consensus has changed from ‘net sell to net buy’ — they could earn 22.4 percent in returns over the next one year, Motilal Oswal said in a report.
Contrarian investing, which is a time-tested investment tool, involves buying/selling stocks against the prevailing sentiment. Historically, a strategy of investing for a year in stocks that have been upgraded (threshold of 0.7) has delivered phenomenal returns of 34 percent over 2006-18.
So, what is consensus rating and consensus upgrade? Bloomberg collects analyst recommendations on each stock and assigns a consensus rating based on these recommendations.
Motilal Oswal has set a minimum 0.7 increase in consensus ratings for an upgrade, therefore focusing only on significant upgrades.
Performance of consensus upgrade stocks
Analysis of consensus rating data for BSE-100 constituents over 2006-18 (till date) suggests that a strategy of investing in stocks that have been upgraded by at least 0.7, with holding period of a year, delivered phenomenal 34 percent returns over 2006-18.
Motilal Oswal found this strategy to be effective across the entire time horizon. The lowest returns delivered by the strategy across the time period was a negative eight percent in 2012 and 4.3 percent in 2008.
Note: A stock is upgraded when some of the analyst ratings change from ‘sell’ to ‘hold/buy’ or from ‘hold’ to ‘buy’. Earnings surprises, improvement in news flow and stock correction, leading to attractive valuations, can be some of the factors contributing to a stock’s upgrade on the street.
Analysis of consensus upgrade stocks by domestic brokerage firm suggests that roughly 55 percent of stocks have outperformed the market. With 34 percent returns annually, the margin of outperformance is significantly higher for winners.
However, for 2018 year-to-date, there are no such stocks among the current BSE-100 constituents that satisfy our criterion.
What is consensus rating?
Bloomberg collects analyst recommendations on each stock and assigns a consensus rating based on these recommendations. It assigns five points for every buy recommendation, three points for every hold recommendation and a point for every sell recommendation. A consensus rating is arrived at by taking the average of these scores.
1) A stock with a consensus rating of five would have all buy recommendations.
2) A stock with a consensus rating of three would have an equal number of sell and buy recommendations, apart from hold/neutral recommendations.
3) A stock with a rating change from less than to over three has a recommendation change from a net sell to a net buy.
4) A stock with a consensus rating of one would have all sell recommendations.
5) We have set a benchmark increase of 0.7 in consensus ratings to be a case of upgrade, therefore focusing only on significant upgrades.