Brokerage firms usually use terms like 'buy', 'sell', 'hold' in their research reports while recommending a stock to clients. Let us look at the significance of analyst ratings for investors.
What are ratings by brokerages?
A rating is a measure of a stock's expected performance in a given time period. The rating and the target price assigned by an analyst at a broking firm can be helpful for an investor to understand what an analyst thinks is the fair price for a stock compared to its market value.
If a rating target price far exceeds the current performance price of a stock, which means an analyst has some conviction in the company's performance.
What are different kinds of ratings?
Ratings can range from a simple, buy, sell or hold to an equal-weight, under-weight or outperform. Analysts assign these ratings on the basis of the earnings prospects, valuations and extent of up move or decline in a stock.
Brokerages have their own scales at which they rate to a stock. For example, a stock that could deliver a 15 per cent upside in price may be a "buy" while one that can give only a 5 per cent upside may be a "hold."
How are these ratings assigned?
Market conditions usually determine how analysts rate a stock. For instance, in a bull market, sentiment may prompt analysts to keep their positive ratings for a long time and to upgrade their price targets more aggressively. Overall, an analyst's ability to anticipate the negatives and positive developments in a company determines the accuracy of fisher ratings.
What are the key aspects of a company that analysts look at?
While there can be multiple technical factors that constitute a rating such as its valuation, its return on equity, its earnings before interest, tax, depreciation and amortization or EBITDA, overall a company's historical financial performance is key.
Corporate governance, the scalability of a company's business, the competitive advantage it possesses are also tracked by analysts. It is also critical to note what positive and negative developments have already been priced into the stock.