The correlation between analyst ratings of small-cap stocks and the subsequent returns of those stocks showed no statistical significance, according to analysis conducted by Barron’s.
“In most cases,” the article argues, “you could have done just as well by flipping a coin.” The analysis, which used FactSet data, compiled all buy, sell, and hold recommendations outstanding as of January 1st for each of the past five years, then compared the average rating to shareholder returns for the subsequent 12-month period.
The article cites comments by Research Affiliates head of equity research Vitali Kalesnik, who argues that the divergence might get worse going forward—since analysts tend to have a bias toward growth stocks. Their recommendations, it says, are likely to do worse if the market starts to favor value shares.
Small-cap stocks, the article concludes, can offer “the biggest returns, as well as the biggest pitfalls. It would be too simplistic to dismiss Wall Street research altogether. They often contain valuable information. But, as ever, it makes sense to do your homework.”