Analysts Don't Lead -- They Follow
(06/23/00, 4:06 p.m. ET)
OPINION
By Russell Wayne, TechWeb Finance
Experienced investors know that analysts don't necessarily hold the keys to the mint. For all of
the strong-buy recommendations and estimates of big gains that come from Wall Street, there
are plenty that just don't pan out.
It's a Wall Street reality that analysts change their recommendations after big developments --
also known as big drops in stock prices. It goes something like this: A company's stock is given a
strong consensus-buy rating and good prospects for annual-earnings growth of better than 25
percent annually over the next two to three years. Then its relative-price strength begins to soften
-- probably due to selling by those who have learned of developing problems. Suddenly,
management issues a press release indicating that profit targets can't be met. Pick an
explanation: Big contracts didn't close before the quarter's end, components are in short supply,
demand has shifted, the old economy is giving way to the new.
But the result is the same: The stock gets clobbered, falling to a fraction of its pre-announcement
level, and the analysts who followed the company are completely surprised.
Consider Global Crossing (stock: GBLX). Three months ago it traded at just under 50 with a
consensus recommendation of 1.6, about halfway between a strong and moderate buy. But 90
days later the stock had dropped by 40 percent and the consensus recommendation was
reduced to 1.9. Common sense would suggest that a lower price means a greater value -- but
analysts haven't mastered that basic concept.
Other examples include Amazon.com (stock: AMZN), CMGI (stock: CMGI), eBay (stock: EBAY),
and Motorola (stock: MOT). The price of each has dropped by a third or more since late March,
but with the exception of CMGI, earnings estimates are similar to what they were before the drop.
Logic would dictate that as the price slides, the ratings should climb -- but they have yet to
change for this group. Don't be surprised if the ratings even move lower, not higher.
What's behind this silliness? Analysts either get caught up in meaningless details, or they fear
saying something no one else is. If most analysts rate a strong buy and a $4.00 earnings
estimate on Stock X, there's little embarrassment for the analyst who stays close to that mark. If
there's a surprise, everyone will bring down their numbers anyway, the analyst will save face,
and the cycle will begin again -- but only after the stock tanks, never before.
Likewise, a stock that everyone hates may become a favorite -- but only after it has soared. The
price target 1,000 for Qualcomm (stock: QCOM) stock, for instance, was set by one analyst after
the stock had climbed better than 20-fold in less than 12 months.
Best advice? Take analysts' advice with a grain of salt. |
