I'm sure we've all had the pleasure of waking one morning and seeing that a broker has upgraded one of our stocks. Usually that stock is in for a good day and likely several days or more after that.
Unfortunately, we've probably all had the experience of waking up and seeing one of our stocks downgraded as well. Usually that stock is in for a rough day, and probably more days to follow.
And while nobody can perfectly predict an upgrade or guard against a downgrade, it's important to know how the market reacts to these things so you can stay in your upgraded winners (or buy if you're on the fence) and consider getting out if a downgrade comes your way.
One thing I've been doing lately is screening for stocks that have recently seen a broker rating upgrade. This is because tests have proven that stocks with broker rating upgrades outperform those that don't get upgraded. Furthermore, they outperform even more against stocks that get downgraded.
By how much?
I created three screens and ran some tests over the last 10 years. And I applied all the below criteria to stocks trading at greater than or equal to $5 with an average daily trading volume of greater than or equal to 100,000.
In screen 1: I backtested only those companies with broker rating upgrades.
In screen 2: I tested companies with no rating change at all. Whatever the rating was, good or bad, there was no change.
And in screen 3: I screened only those companies that received broker rating downgrades.
The tests pretty much confirmed what I had already suspected but the magnitude was a lot larger that I had anticipated.
The broker rating upgrades over the last 10 years showed an average annual return of 10.4%.
The ones with no rating change at all showed an average annual rerun of 6.1%.
And the stocks with broker rating downgrades actually showed a loss of -0.3%.
So the upgrades beat the ones with no rating change by nearly twice as much. And they outperformed those with downgrades even more. In fact, that was the difference between making money and losing money.
Below are 5 stocks that have all been upgraded within the last 4 weeks (for 4/28/11):
(AKS - Free Report) AK Steel Holding Corp.
HMA Health Management Associates, Inc.
NWSA News Corp.
(PBI - Free Report) Pitney Bowes Inc.
RAH Ralcorp Holdings, Inc.
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Disclosure: Officers, directors and/or employees of Zacks Investment Research may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material. An affiliated investment advisory firm may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material.
Disclosure: Performance information for Zacks portfolios and strategies are available at: https://www.zacks.com/performance.