Wall Street’s lowest-rated stocks have turned into this year’s best performers, a sign that analysts who underestimated the U.S. economy will boost their recommendations and trigger even bigger gains in equities.
Huntington Bancshares Inc., the regional lender in Columbus, Ohio, had twice as many “sell” ratings as “buys” in December and jumped 66 percent this year for the fourth-largest advance in the Standard & Poor’s 500 Index. Eastman Kodak Co. and Sunoco Inc. have gained more than 20 percent after more than 30 percent of the analysts covering them at the start of the year recommended getting rid of the shares.
Companies most dependent on U.S. growth have the highest proportion of “sell” ratings even as economists predict the fastest expansion since 2004. Banks, property developers and automakers rallied 12 percent on average this year. Investors say the bears will capitulate, providing the next catalyst for more stock gains.
“The best kind of company to own is the one where the vast majority of analysts are negative but you see things turning around,” said Thomas Wilson, managing director of the institutional investments and private client group at Brinker Capital, which manages about $9 billion from Berwyn, Pennsylvania. “I don’t really want to own the stock that has nothing but favorable ratings because the expectations are so high.”
Analysts were most optimistic in December on industries whose profits are least tied to economic growth, according to data compiled by Bloomberg. Those shares have trailed the S&P 500 after economists boosted projections for 2010 GDP expansion to 3.2 percent from 2.7 percent in January, the data show. Coca-Cola Co., the world’s largest soda maker, had 14 “buys” and 1 “sell” rating in December and has lost 7.9 percent this year, based on data compiled by Bloomberg.
More than 52 percent of recommendations for S&P 500 drugmakers, computer companies and food producers were bullish. Pfizer Inc., the world’s largest pharmaceutical company, is down 17 percent this year even after 81 percent of analysts covering the New York-based firm said investors should buy shares, according to data compiled by Bloomberg from the end of last year.
Lenders, Apartment Builders
Wall Street was most bearish on groups whose earnings fell the furthest in the recession: banks, which gained 11 percent this year; property developers, up 14 percent, and automakers, which rose 9.9 percent, the data show. Real estate stocks have rallied on signs household wealth is rebounding and the Federal Reserve will keep benchmark interest rates at a record low until next year.
“The crowd tends to get you off into the wrong area at the wrong time,” said Barry James, who manages $2 billion as chief executive officer for James Investment Research Inc. in Xenia, Ohio. “When the analysts are all on board saying only good things can happen, it’s already built into the price. There’s not a lot of upside left.”
The S&P 500 dropped 0.4 percent to 1,113.20 today. The gauge rose 2.4 percent last week as reports showed New York-area manufacturing expanded for an 11th month and Europe’s efforts to contain its debt crisis bolstered confidence. The gauge has lost 8.6 percent since April 23 amid concern that widening budget deficits in European nations would lower growth. The benchmark index is down 0.2 percent for the year.
Reasons to Sell
Bearish ratings signal a company or industry face above- average risk and are reasons for investors to sell, said Keith Wirtz, who oversees $18 billion as chief investment officer at Fifth Third Asset Management Inc. in Cincinnati.
Four of the thirteen analysts covering Denver-based ProLogis told investors to sell the shares in December. The world’s biggest owner of warehouses has since fallen 15 percent this year after saying on April 22 that slack demand for storage pushed funds from operations down 90 percent in the first quarter.
“You shouldn’t be blinded by these huge stock moves,” Wirtz said. “If there’s a preponderance of sell ratings on a particular stock, logic would suggest that there must be reasons for the dislike, real fundamental challenges.”
Analysts were most pessimistic on a group of 16 lenders in December, with “sell” ratings making up 17 percent of the industry’s recommendations, the highest proportion among 24 industries in the S&P 500, data compiled by Bloomberg show. The advice backfired as the measure rallied 12 percent this year, led by an 86 percent surge in Salt Lake City-based Zions Bancorp.
“Sell” ratings for real estate companies and automakers in the S&P 500 accounted for 13 percent and 14 percent, respectively, of the total in December, Bloomberg data show.
Three times as many analysts recommended selling shares of Apartment Investment & Management Co. in December than buying, according to Bloomberg data. Bank of Montreal’s Rich Anderson, who has covered Aimco for 15 years, cut it to “underperform” from “market perform” on April 26. The property manager has soared 37 percent this year on speculation U.S. apartments may lead a rebound in commercial real estate.
“My call is really valuation based,” said Anderson in an interview from New York. “They’ve made mistakes in the past and burned investors in the past. It’s a highly complex organization that has historically done things outside of the box and hasn’t been bashful about doing those things.”
Aimco trades at 24 times funds from operations, compared with the median multiple of 14 since the Denver-based company went public in 1994, data compiled by Bloomberg show. The shares sank as much as 89 percent during the credit crisis.
Executives at property managers are becoming more optimistic on the outlook for earnings, which may push stocks in the industry higher, Anderson said in the April 26 report. Among the 14 companies in the S&P 500 measure of real estate investment trusts, 11 beat the average analyst estimate for first-quarter profit, data compiled by Bloomberg show.
Investors who followed the advice of Macquarie Group Ltd.’s Michael Levy, who upgraded Aimco on May 1, 2009, to “outperform” from “neutral,” would have tripled their return.
“People were concerned about high leverage, liquidity, that their apartment portfolio may suffer worse than others,” said Levy, who is based in New York. “I was looking at it with a relatively fresh set of eyes because I launched coverage on the stock in the first quarter of last year. We thought the growth profile of the company was actually pretty good.”
Apartment vacancies will probably reach 8.2 percent in 2010, the highest level since at least 1980, and start declining the following year, said research firm Reis Inc. on May 19. Defaults on apartment-building mortgages held by U.S. banks climbed to a record 4.6 percent in the first quarter, almost twice the year-earlier level, according to a May 24 report from Real Capital Analytics Inc.
Analysts turning optimistic may provide fuel for a stock to rally. At least 11 analysts have raised their rating on PNC Financial Services Group Inc. to “buy” this year as the Pittsburgh-based lender gained 17 percent. The fifty companies in the S&P 500 that had the most upgrades to “buy” have risen 11 percent on average this year, compared with a 1.7 percent advance for those with the most downgrades to “sell,” according to data compiled by Bloomberg.
The strategy of picking stocks that other investors don’t want is working for Bruce Berkowitz, named U.S. stock manager of the decade in January by Morningstar Inc. He piled into Hoffman Estates, Illinois-based Sears Holdings Corp. and American International Group Inc. even as analysts urged investors to dump the shares. The companies are two of the three lowest-rated stocks in the S&P 500, with “sells” making up at least 40 percent of the recommendations, data compiled by Bloomberg show.
Sears, the largest U.S. department-store chain, was the second-biggest holding in Berkowitz’s $14.8 billion Fairholme Fund as of Feb. 28. He bought more than 30 million shares of AIG to become the largest private holder of the New York-based insurer, according to data compiled by Bloomberg.
Berkowitz’s fund gained 25 percent in 2004, compared with the S&P 500’s 9 percent return, thanks in part to MCI Communications Corp. shares before New York-based Verizon Communications Inc. bought the telephone company. Fairholme has beaten 98 percent of its rivals in the past five years, data compiled by Bloomberg show.
“There was a time when the public could buy the most- hated, but not-unprofitable MCI, formerly known as WorldCom, for less than the cash the company had in the bank,” Berkowitz said in an e-mail. “Investing is all about comparing what you give, purchase price, versus what you get, selling price and dividends and other potential sources of cash.”
S&P 500 Stocks With Most Sell Ratings in December YTD Change Eastman Kodak 22% Sears Holdings -11% Apartment Investment & Management 37% Nicor 1.5% Brown-Forman 12% Robert Half International -6.3% American International Group 29% Zions Bancorporation 86% Harman International Industries -0.8% Huntington Bancshares 66%