When making investment decisions, many investors turn to analyst recommendations. These ratings, often publicized by brokerage firms, can significantly impact a stock’s price. But how reliable are they, and how should investors use them? Let’s examine the case of Skechers (SKX) and then discuss the nuances of using analyst recommendations.
Skechers currently has an average brokerage recommendation (ABR) of 1.08, on a scale of 1 to 5 (Strong Buy to Strong Sell), based on recommendations from 12 brokerage firms. This ABR suggests a strong buy rating. However, relying solely on this information for investment decisions may not be wise. Research has shown that brokerage recommendations often fail to accurately predict stock performance.
Why is this? Brokerage firms often have a vested interest in the companies they cover, leading to biased recommendations. Our research indicates that for every ‘Strong Sell’ recommendation, brokerage firms assign five ‘Strong Buy’ recommendations, suggesting a bias towards positive ratings. This puts retail investors at a disadvantage, as the interests of these institutions may not align with their own.
To navigate this bias, it’s crucial to use analyst recommendations as a validation tool, alongside other resources that have proven effective in predicting stock price movements. One such tool is the Zacks Rank, a proprietary stock rating system with a strong track record.
The Zacks Rank classifies stocks into five groups, from Zacks Rank #1 (Strong Buy) to Zacks Rank #5 (Strong Sell), based on earnings estimate revisions. This system has proven to be a reliable indicator of near-term stock performance. Combining the ABR with the Zacks Rank can be a powerful approach to making informed investment decisions.
It’s important to distinguish between the ABR and the Zacks Rank, although both are rated on a 1 to 5 scale. The ABR is based solely on broker recommendations, while the Zacks Rank utilizes a quantitative model that leverages the power of earnings estimate revisions. This model is designed to be more objective and accurate.
Analysts employed by brokerage firms are often overly optimistic in their recommendations due to their employers’ vested interests. This bias leads to misleading ratings that frequently fail to guide investors. In contrast, the Zacks Rank is driven by earnings estimate revisions, which have a strong correlation with near-term stock price movements. Furthermore, the Zacks Rank assigns grades proportionately to all stocks with current-year earnings estimates, ensuring a balanced distribution across its five ranks.
Another crucial difference between the ABR and Zacks Rank is timeliness. The ABR may not be up-to-date, while the Zacks Rank, due to its reliance on constantly evolving earnings estimate revisions, provides a timely reflection of future price movements.
In the case of Skechers, the Zacks Consensus Estimate for the current year has remained unchanged at $4.16 over the past month. This indicates that analysts have a stable outlook on the company’s earnings prospects. However, based on the size of the recent consensus estimate change and other relevant factors, Skechers has received a Zacks Rank #3 (Hold). This suggests caution is warranted when considering the Buy-equivalent ABR for Skechers.
Ultimately, utilizing analyst recommendations in conjunction with a proven and objective system like the Zacks Rank can provide a more comprehensive and reliable picture of a stock’s potential. This approach helps investors make informed decisions and navigate the often-biased world of analyst recommendations.
