Analysts will do better in 2010, say Citi analysts strategists.

The group, Citi notes, had something of an annus horriblis in 2009 — struggling to make the right calls at key turning points.

Here’s the thrust of the argument put forth by Citi’s European Portfolio Strategy team:

Markets turn quickly. Analysts do not. A quality bias seems embedded in their DNA. They like “good” companies. They dislike “bad” companies. Fine most of the time. Not fine at turning points. These can be painful periods for analysts.

We analyse consensus recommendations to judge how analysts have fared in 2009. Mixed report. Good start and finish with dire performance in between would be a fair summary. Analysts have once again struggled at a big turning point.

But, investors should also consider analysts’ track record over the past 20 years. Overall, pretty good, beating cash and equities. We also show how buying analysts’ “most loved” and selling analysts’ “most hated” stocks would have matched performance (pre-fees, post-leverage) from Europe’s long/short hedge funds. Pretty simple strategy, pretty consistent returns.

Next year beckons. We think that we have had our fair share of turning points for a while. Investors would have done well to ignore analysts in 2009. But, it could be dangerous to pursue a similar strategy into 2010. We highlight which stocks and sectors are most/least liked now.

Just as an example on the turning point issue — at left is a table from Citi showing just how painful this year’s turning point was for analysts. It shows the 20 most analyst-hated and 20 most analyst-loved stocks from the DJ Stoxx Large-cap and Mid-cap indices at the end of February 2009.

You can see that from the trough in European equities (March 9), the 20 most hated stocks rose an average 98 per cent in the following three months. The 20 most loved also increased in those months, but by just 19 per cent. That would have meant big losses for an equity strategy based purely on analyst recommendations.

The analysts, Citi notes, fare better when you look at their overall performance over the past 20 years. For instance, €100 invested at the end of 1993 in one of Citi’s analyst recommendation-driven strategies would have produced €397 by 2009. While just investing in equities would have produced a little less than €200.

So analysts had a bad year in 2009, Citi says. But 2010 looks much better. Why exactly?

Here’s what they say:

At the sector level, we show the five most loved and five most hated European sectors as at end-February and now in Figure 15 and Figure 16. This shows why analysts have had a tough year. Banks, Real Estate and Basic Resources were their three most hated sectors in February-March. In fact, they still are now. There has been only one change amongst the most hated sectors in the past nine months — Technology has replaced Autos.

Autos has actually jumped from most hated to most loved. Fast work. The five most loved sectors now are all different from earlier this year. Financial Services and Food & Beverage have replaced Oil & Gas and Health Care.

Analysts are still vulnerable to a continuation of the recovery trade via their most hated sectors. But, they have more exposure to cyclical risk and have reduced exposure to defensives compared to end-February. Food + Beverage is the only surviving defensive sector amongst the most loveds.

. . .

This year has been the year of the contrarian. Analysts rarely do contrarian. While it has been largely right to ignore analysts in 2009, we think that investors should pay more attention to analysts in 2010.

Which is just as well, considering Citi is also launching a . . .

New Citi product

We think that analysts’ recommendations are more likely to add value in 2010 than they did this year. It is therefore timely that Citi has recently launched a new monthly report highlighting the 50 most and 50 least preferred European stocks on a three-month investment horizon according to our analysts. Please let Gerry Fowler (gerry.fowler@citi.com) or us know if you would like to receive this report regularly.

Takers?

Related links:
Montier: `Analysts are rubbish’ – FT Alphaville
Analysts are` not created equal’ – FT Alphaville
Don’t trust the data – FT Alphaville

This entry was posted by Tracy Alloway on Tuesday, December 8th, 2009 at 12:40 and is filed under Capital markets. Tagged with analysts, Equities. Edit this entry.