Deep Dive

Here’s how Wall Street analysts’ favorite stock picks performed over the past five years.

Last Updated: March 31, 2024 at 5:10 p.m. ET
First Published: March 26, 2024 at 7:03 a.m. ET

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By Philip van Doorn

The results of a performance comparison of highly rated stocks and ones selected through analytics might surprise you

If you want to employ data when selecting stocks, you can look back to see how a company has performed, or you can look ahead at expected growth rates for sales, earnings or cash flow. You might also consider how expensive a stock is relative to expected sales, earnings or cash flow.

You can also consider how analysts rate a stock.

Analysts who work for brokerage firms will assign buy, sell or hold ratings to stocks, along with price targets. The analysts also estimate companies’ revenue and profits. Each quarter, as companies announce their results, the financial media will report whether or not the companies have beaten or missed the estimates. Over time, it is good to see consensus estimates for a rolling 12-month period increase, as rising estimates can support rising share prices.

But how good are analysts at selecting stocks for the long term? This isn’t an easy question to answer, but we might begin with a simple performance comparison for a highly rated group of stocks with a group selected by looking back at performance data.

Below is a look back at analysts’ favorite stock picks among the S&P 500 SPX five years ago, showing how these selections have performed since then. For comparison, we will look at companies whose five-year average returns on invested capital were highest five years ago and see how that group has performed.

First, let’s take a look at how analysts who work for brokerage firms, also known as sell-side analysts, rate companies for investment.

Sell-side ratings

One thing to keep in mind is that the custom in the industry is to set a 12-month price target, which may be a short period for a serious long-term investor. For example, shares of Microsoft Corp. MSFT have returned 283% over the past five years through Friday, with dividends reinvested. But the stock dropped 28% during 2022 before roaring back 58% in 2023. From the end of 2021, Microsoft has returned “only” 14%. Then again, the S&P 500 has returned 3% since the end of 2021, while the index’s five-year return has been 85%. All of this serves to illustrate why it may be best for a long-term investor to think about committing for many years, rather than focusing on 12-month targets.

Now let’s consider the ratings. A quick look at the S&P 500 shows that ratings skew positive. Among the 500 companies, 54% have majority buy or equivalent ratings among analysts polled by FactSet. But there are no companies with majority sell or equivalent ratings and only three with 50% sell ratings: T. Rowe Price Group Inc. TROW, Robert Half Inc. RHI and Expeditors International of Washington Inc. EXPD .

On March 14, there were 74 companies in the S&P 500 with at least 75% buy ratings among analysts polled by FactSet. Combining that with a look at the price targets generated this list of 20 favorite stocks among the analysts.

A look back at Wall Street’s favorite stocks five years ago

Starting with the current S&P 500, we can look at the ratings and consensus price targets five years ago to see which companies Wall Street analysts favored at that time.

To begin, among the current S&P 500, 484 companies were rated by at least five analysts polled by FactSet as of March 22, 2019. Among those 484 companies, there were 80 rated a buy or the equivalent by at least 75% of the analysts. Among those 80, these 10 had the highest upside potential implied by consensus price targets at that time:

Five of these companies have outperformed the S&P 500’s 85% return over the past five years, which really isn’t bad. One of the companies, Tapestry Inc. TPR, had a total return of 75%, and none had negative returns.

Even professional portfolio managers might be happy to have half of their selections work out well, while moving on from underperformers.

How an ROIC-selected list would have performed

Last month we took a very long look back and saw a close correlation between outperforming the S&P 500 and having high returns on invested capital.

A company’s return on invested capital, or ROIC, is its net income divided by the sum of the carrying value of its common stock, preferred stock, long-term debt and capitalized lease obligations.

This is an annualized figure that highlights how efficient a company’s management team has been at allocating investors’ money. Some industries will naturally have higher ROIC than others because they are less capital-intensive. Others that have managed to avoid raising additional money to operate their businesses — such as Apple Inc. AAPL — while buying back shares to lower their share count (and their invested capital) will have high or rising ROIC over the years.

FactSet calculates companies’ ROIC each fiscal quarter, using a look back at the previous four quarters. So ROIC is always an annualized figure for a rolling 12 months.

For a five-year ROIC screen as of March 22, 2019, we began once again with the current S&P 500. We looked at FactSet’s ROIC figures as of that date and then looked back four fiscal quarters, then eight quarters and so on, to have five 12-month ROIC snapshots for our five-year averages.

These 10 companies in the S&P 500 had the highest five-year ROIC as of March 22, 2019. The table also includes ratings summaries as of that date and five-year returns through Friday:

On this ROIC-selected list, six of 10 companies outperformed the S&P 500 through Friday, while one, HP Inc. HPQ, was close behind, with an 83% return.

But VeriSign Inc. VRSN, which had the highest ROIC, was the second-worst performer on the list and did far worse than any company on the first list of analysts’ favorites from five years ago. And shares of Boeing Co. BA were down 47% for five years through Friday, while the worst performer on the analysts’ list, Humana Inc., had a positive return of 32% for five years.

Other observations about the data:

• The lists of analysts’ 10 favorites and of the top ROIC performers five years ago are mutually exclusive.

• There were five companies on the analysts’ list with triple-digit five-year returns, and there were six of those on the ROIC list.

In conclusion, the ROIC analytical method would have worked out better when judged by the number of winners, but the analysts’ list would have turned out to be safer.

Both approaches can be useful. Investors should consider all sources of information available, including financial performance and analysts’ ratings, targets and estimates, when forming their own opinions about potential investments.

 

About the Author

Philip van Doorn Philip van Doorn writes the Deep Dive investing column for MarketWatch.

 

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