Monday, May 7, 2012
If you've been investing for more than a few years, you've likely taken comfort in the idea of buying a stock that is highly rated by Wall Street analysts.
You might have heard something like, "19 out of 20 analysts that cover the company rate it as a buy," and felt good you owned shares in a company that so many other people like.
Even now, you might factor in rosy Wall Street analyst ratings when looking for new stock purchases.
This belief is widespread. Almost every "armchair investor" in America has it...
And it's one of the surest paths in the world to wrecking your portfolio.
Buying stocks with high ratings from lots of Wall Street analysts should be nicknamed, "Getting in way too late"... or "Holding the bag."
If you're buying stocks that are rated "buys" from "19 out of 20 analysts," congratulations. You're Wall Street's patsy.
A stock market participant will make far more money by focusing on ideas that are ignored – or even hated – by the majority of Wall Street analysts. By taking this approach, you'll get far more value for your investment dollar. You'll avoid being Wall Street's patsy.
There are two major reasons the vast majority of Wall Street research is unreliable...
One: Although many Wall Street analysts have expensive degrees and excellent training, they are ultimately humans. We're social creatures. It feels good to be part of a crowd.
Oftentimes, the desire to be part of a crowd overwhelms the good sense of even the smartest people. So even though an analyst might think a certain stock or a certain industry sector is a great bargain, he will be hesitant to say "Buy!" if many other people have doubts about the idea. It's going to be too uncomfortable for the analyst.
The problem here is that an "investment crowd" is almost always wrong. When everyone loves an idea, it's going to be a terrible bargain. Optimistic bidders will have already pushed shares to excessive valuations. New buyers get a horrible deal. They buy expensive shares from the folks who got in early... And they get soaked.
Two: Wall Street makes the bulk of its profits not from providing great research... but from doing things like raising money for companies and collecting fees.
Wall Street has a vested interest in the public staying relentlessly positive. When the public is relentlessly positive, it relentlessly buys stocks and bonds. This creates billions and billions of dollars in profit for Wall Street.
For example, if a firm is raising money for a steel maker, you can be sure that its analysts will be encouraged to write positive reports about the steel industry... no matter what they really think. The analysts have to "toe the company line."
The average investor doesn't give much thought to this... but it's common knowledge in the industry. Insiders know that most Wall Street research is created to fleece ignorant investors. When you buy a stock because it is highly rated by Wall Street firms, it's like buying a used car that is rated highly by the majority of used car salesmen on the lot.
For example... during the late 1990s tech bull market, Wall Street analysts placed "buy" ratings on hundreds of companies that had no shot at making money. But those very companies were paying Wall Street billions of dollars in fees. In private e-mails, analysts called the companies "pieces of s**t," while urging small investors to load up.
In 2007, just before the credit crash, Wall Street analysts had almost every mortgage-related security rated as a "buy." It was in their interest to convince investors to buy this toxic stuff. Wall Street was earning billions of dollars selling it to the public.
These are recent examples... But these conflicts of interest have existed for a hundred years.
Again... you're far better off focusing on companies and sectors that the majority of Wall Street analysts are ignoring... or are even extremely bearish on. Buying assets that Wall Street analysts can't stand will get you into situations like buying cheap, ignored gold stocks in 2001... right before they entered a massive bull market.
Adopting this strategy will feel strange at first. You'll be doing the opposite of what "experts" on television are telling you to do. It will be uncomfortable to be away from the crowd.
But remember... those experts are subject to mindless, crowd-following urges like anyone else. They also make the most money by selling the most dangerous assets. They are the high-priced equivalent of a used car salesman knowingly selling you a lemon... while raving about its performance.
If you can adopt this strategy, you'll set yourself up for giant capital gains in the next year or two. The opportunity will be in natural gas. As Growth Stock Wire readers know, the industry is entering a crisis of extremely low prices.
Many natural gas businesses will go bankrupt. They will become extremely unpopular investments on Wall Street. Many natural gas stocks will have "zero out of 20" analysts rating them as a buy.
We're not there yet. But when we are... that's when it will be time to buy the stocks in size.
Last year, our sister site The Daily Crux interviewed Brian on another contrarian trading idea he calls "the single greatest trading strategy on the planet." Learn more here.
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