Analysts’ research reports are a good source of information for most investors. They are not always accurate or reliable. Some may make or lose money with analysts’ recommendations and their target prices.
Some observations
Target price and the upside focus
What everyone is interested in in the research report is just the target price and maybe the headlines. Most do not read the rest of the research report to understand their investing thesis and whether we agree.
Short term oriented
Most reports tend to be short-term oriented. They release their reports after earnings releases and periodically to update investors. Their target prices are usually for a one-year period. The analysts may adjust their estimates as they update their valuation with the progress of the companies and the developments in the sector and/or macro situations.
Don’t read and don’t understand the reports
Many do not read and may not understand the company and the investing thesis. They just buy just based on the upside potential.
Herding
We cannot help but notice that many analysts’ target prices accentuate within a range of target prices among themselves and in the times of the management’s guidance and outlook.
Reactionary
When the share prices drop, some analysts may start releasing reports slashing their target price citing some reasons for the drop.
Influential
On the other hand, some analysts’ calls can affect stock prices.
Biases
Some investors may blindly follow the reports based on the analysts’ recommendations and their target prices for the stocks without having their own views. This creates confirmation bias and herd mentality that they invest based on blind faith.
Can be wrong and inaccurate
They can be wrong. The macro situation turns for the worse. The companies may make some mistakes or something unexpected happen.
They are generally short-term in their projections. They will issue reports and change their projectations and target prices with their earnings and events affecting the companies.
Making use of research reports
A good resource material
The analysts study the company and the operating industry in detail. They talk to management, employees, customers, and suppliers and use the products and services. Considerable effort is used to produce a quality research report.
Some reports are packed with informative, comprehensive well-structured information as they explain the attractiveness of the industry and the various companies. They are good sources of information to understand the company and its operating environment from a third-party’s view. They provide an understanding of what the analysts’ community is thinking.
Seek to understand their viewpoints
The analysts explain their target price with projections, assumptions on expected PE, discount rates and weighted cost of capital. The report provides a good understanding of their assumptions to derive their target prices.
It can be a good starting point for us to find companies to consider before we do more research into these companies ourselves.
“Inaccurate”
We tend to judge the research reports as inaccurate on whether the target prices are achievable. It is binary: able to hit or not able to hit the target price.
Instead, what we should be evaluating:
- Do we understand and agree with their investing thesis from the research report?
- Do we understand and agree with the strength of the competitive advantages and their potential cited?
- Are the analysis superficial and generalising? Are they doing deep analysis with nth-order thinking?
- Are they valuing the companies correctly? Is the market missing what the analysts are pointing out?
Validating the quality of research reports
Not all analysts are similar in quality. Some may be hyping a stock with a pricing model (rather than a valuation model) with a superficial investing thesis.
A simple way is to check the analysts’ past recommendations and how they have fared.
Bloomberg has the Bloomberg Absolute Return Rank (BARR). It is a feature that allows us to rank the analysts who cover any given stock by the return we would have earned had we followed their recommendations to buy, sell, and hold.
Some sites rank analysts. For example, Tipranks ranked by the analysts’ success rate, their average return per recommendation and their number of ratings. Here are the top analysts of 2021 identified by Tipranks.
Consensus
There are investing sites that compile analysts’ recommendations to develop a consensus. The analysis of widely followed companies can be more reliable.
Input to our due diligence
We should not follow the research reports blindly. It should not be our be-all and end-all for our investment research with buy and sell calls. Instead, we should use these reports as input to identify good companies to study.
We have to use them to complement our investing process. They can be too short-term for longer-term investors.
Illusional holy grail
Everyone searches for the holy grail. However, no one is right all the time. To keep searching can end up being confused and lost. Who is right?
Instead, knowing our own preferences and establishing a profitable approach to investment and trading is critical. Use the research reports to our advantage.
Other sources of information
There has been a proliferation of high-quality investing teachings and ideas from advisory services, social media, independent paid services (such as Patreon and Substack), investing data and screeners. Some provide a competing alternative to the research papers by the analysts. Similar to research reports, they are not always accurate. They may focus on their investing style and competence areas. Together, they form a good source of learning, information and tools for our investing due diligence and investing approaches.
Use them well to jump-start our investing journey.
