How useful are broker recommendations? If I only invest in UK stocks that are rated a strong buy will I outperform the UK markets? If I went for those stocks the brokers rate as a strong sell will I see my ISA account turn to dust?
To answer these questions I am going to look at current broker consensus recommendations for UK stocks and see what happens as the months roll by.
FTSE 100 and FTSE 250 stocks
I included stocks that are members of the FTSE 350 index (which includes the FTSE 100 and FTSE 250) and have over 10 brokers covering them. I found 161 companies on 11 January, 2023, and noted their sector and industry groups, along with the last price their stocks traded at, and of course the current consensus broker recommendation.
Any single brokers recommendation is coded as follows:
- 1 is a strong buy
- 2 is a buy
- 3 is a hold
- 4 is a sell
- 5 is a strong sell
Since there are at least 10 brokers for each of the companies in the sample, then we won’t see a nice round number but an average. So we could say that, under 1.5 is a strong buy consensus, between 1.5 and 2.5 is a buy, 2.5 or over and under 3.5 is a hold, between 3.5 and 4.5 is a sell, and 1.5 and over is a strong sell.
You would certainly expect a stock rated strong buy on average to see its stock price go up in the future. And conversely a strong sell stock should be expected to go down if brokers are on the money. That’s because a broker should be looking at an intrinsic value for the stock they are analysing and comparing it to the market price. If it’s significantly higher than the market price, it’s a strong buy, significantly lower and its a strong sell. If its about then same then its a hold, and for everything in between ether a buy or a sell.
We can take the markets movements into account and say that a hold should perform in line with the market, a strong buy should significantly outperform and a strong sell significantly underperform. But regardless of the measurement, either absolute or relative returns, what I expect to see is a negative correlation between the broker recommendations and the future returns: the lower the broker recommendation number now (remember, 1 would be a strong buy) the higher the returns in the future.
Current broker recommendations
For the 161 stocks in the sample we have the following summary statistics.
- Max 3.44
- Min 1.60
- Mean 2.34
- Median 2.31
- Skew 0.52
- Kurtosis -0.10
One thing is immediately apparent: A consensus sell, let alone a strong sell, is a rarity. A hold rating is about as bad as it gets for UK stocks. Abdrn, an investment manager, is the lowest rated at 3.44, and bear in mind this name is a frequent flier on the list of the UK’s most shorted stocks. The best rated company is Centamin, a gold miner, with a consensus rating of 1.6, which is almost a strong buy.
How about looking at the average consensus recommendation across the sectors. Not much to report, Telecoms is closer to a hold on average, all the rest are closer to a buy on average.
| Sector | Average of Broker Consensus | Maximum of Broker Consensus | Minimum of Average Broker Consensus | Standard Deviation of Broker Consensus |
| Telecoms | 2.52 | 2.68 | 2.35 | 0.24 |
| Financials | 2.41 | 3.44 | 1.73 | 0.40 |
| Technology | 2.41 | 2.94 | 2.00 | 0.30 |
| Basic Materials | 2.41 | 2.94 | 1.60 | 0.45 |
| Consumer Defensive | 2.34 | 3.08 | 1.90 | 0.36 |
| Industrials | 2.28 | 3.06 | 1.73 | 0.32 |
| Consumer Cyclical | 2.28 | 3.32 | 1.73 | 0.40 |
| Healthcare | 2.27 | 2.77 | 2.00 | 0.32 |
| Utilities | 2.22 | 3.00 | 1.81 | 0.48 |
| Energy | 2.12 | 2.42 | 1.92 | 0.26 |
So, there we have it. I have a list of 161 stocks, their current broker recommendations, sector and industry group membership, and current price. All that I can do know is wait and see what happens.
DISCLAIMER: James J. McCombie does not own any of the stocks mentioned. The Storied Investor has no beneficial position in any of the stocks mentioned.
The Storied Investor 